africa israel investments ltd.

Transcription

AFRICA ISRAEL INVESTMENTS LTD.
Periodic Report for 2006
Company name: Africa Israel Investments Ltd. (“the Company”)
Company registration number: 520005067
Address: 4 Hahoresh Street, Yehud
Telephone: 03-5393535
Fax: 03-6321730
email: [email protected]
Date of balance sheet: December 31, 2006
Date of report: March 25, 2007
1
Table of Contents
• Description of the Company's business
• Report to the Board of Directors on the state of the Company's affairs
• Financial Statements
• Additional information on the Company
2
Description of the Company's Business – Table of Contents
Topic
Page
Introduction
Chapter 1 - Description of the general development of the Company’s
business
1.1
The Company’s operations and a description of the development
of its businesses
1.2
Main areas of operations
1.3
Investments in the Company’s equity and share transactions
1.4
Distribution of dividends
Chapter 2 - Other information
1.5
Financial information on the Company’s areas of operations
1.6
Changes in the segmentation of areas of operations
1.7
The general environment and the effect of external factors on
the Company’s operations
4
13
14
16
17
17
17
Chapter 3 - Description of the Company’s business by segment
1.8
Real estate development
1.9
Rental properties
1.10 Construction
1.11 Infrastructure contracting
1.12 Textile
1.13 Hotels
1.14 Other operations that do not amount to segments
21
92
164
183
197
215
237
Chapter 4 - Other corporate information
1.15 Human capital
1.16 Working capital
1.17 Alon Israel Fuel Company Ltd.
1.18 Packer Steel Ltd.
1.19 Derech Eretz Highways (1997) Ltd.
1.20 Vash Telecanal Ltd.
1.21 Tadiran Telecom Ltd.
1.22 Tel Aviv Light Train Project
1.23 Financing
1.24 Taxation
1.25 Restrictions on and regulation of the Group's operations
1.26 Material agreements
1.27 Cooperation agreements
1.28 Legal proceedings
1.29 Financial information regarding geographic segments
1.30 Goals and business strategy
1.31 Expected developments in the forthcoming year
1.32 Discussion of risk factors
247
251
251
282
300
310
316
319
322
334
343
343
344
349
349
349
350
351
3
Description of the Company's Business
CHAPTER 1 - DESCRIPTION OF THE GENERAL DEVELOPMENT OF THE
COMPANY’S BUSINESS
1.1
The Company's operations and a description of the development of its business
1.1.1
Africa Israel Investments (hereinabove and hereinafter, "the Company" or "Africa
Israel") was incorporated in 1934 as a private company, pursuant to the Companies
Ordinance, under the name of Africa Palestine Investments Ltd, and in 1967, the
Company changed its name to its present name.
1.1.2
In 1973, the Company became a public company and its shares were listed for trade on
the Tel Aviv Stock Exchange (hereinafter, "the TASE"). On July 1, 2003, the Company’s
shares were included in the TASE’s Tel-Aviv 25 index.
1.1.3
In June 2005, the Company completed execution of a Level I ADR (American
Depository Receipts) Plan relating to Company shares, together with the Bank of New
York. The deposit certificates issued in respect of Company shares are offered for sale in
the United States by the said bank and are traded “over the counter,” at a ratio of two
deposit certificates for one Company share.1
1.1.4
Since 1997, Mr. Lev Leviev has been the controlling shareholder of the Company
(including through corporations which are fully owned and controlled thereby).2 In
March 2006, Mr. Leviev (including through corporations which are fully owned and
controlled thereby) purchased Bank Leumi’s holdings in the Company (hereinafter,
"Bank Leumi" or "BLL") (as at December 31, 2005, 15.83% of the Company's authorized
voting rights and share capital); and from the said date onwards, Bank Leumi has ceased
to be an interested party of the Company, see paragraph 1.3.2 hereinafter.
1.1.5
As at December 31, 2006, the Company holds a large number of subsidiaries, directly
and indirectly, including six public corporations whose shares are listed on the TASE, as
detailed in the following table:
Company
Africa Israel Properties Ltd.
Holding as at March
20, 2007 (not in full
dilution)
69.21%
Area of operation as at December
31, 2006
Rental properties
1
First level execution of an ADR plan does not impose any obligation to publish a prospectus or issue other
publications in the US, other than the obligations imposed in respect of such shares at the place of incorporation
thereof and/or where said shares were listed for trade prior to the ADR plan.
2
The controlling owner of the Company is Mr. Lev Leviev who controls the following corporations: Memorand
Ltd., Memorand Management (1998) Ltd, Memorand Investments (2000) Ltd, and Memorand Holdings and
Investments Ltd. As at the date of the Periodic Report, Mr. Leviev holds (directly and indirectly) 37,705,549.26
ordinary shares of NIS 0.1 par value each, which constitute 75.7% of the Company's issued share capital and
voting rights.
4
Africa Israel Residences Ltd.
Danya Cebus Ltd.
Africa Israel Hotels Ltd.
Packer Steel Ltd. 1
Negev Ceramics Ltd.
1.1.6
79.37%
73.41%
86.08%
65.45%
70.25%3
Real estate development in Israel
Contracting and infrastructure
Hotels and leisure
Manufacturing, processing and
trade in steel2
Manufacture, import, distribution
and sale of finishing products for
construction and renovations 4
Delineation of operations: The Company assumed obligations toward Africa Israel
Hotels Ltd. (hereinhereinabove and hereinafter, "Africa Hotels"), Danya Cebus Ltd.
(hereinhereinabove and hereinafter, "Danya" or "Danya Cebus"), Africa Israel Properties
Ltd. (hereinhereinabove and hereinafter, "Africa Properties"), and Africa Israel
Residences (hereinhereinabove and hereinafter, "Africa Residences"), and the same
assumed obligations toward the Company (if and to the extent possible, as the case may
be), concerning their areas of operation, a summary of which follows:
1.1.6.1
The Company is obligated, vis-a-vis Africa Hotels (under an obligation unlimited in
time), to concentrate and to manage its hotel business and the hotel business of its
subsidiaries through Africa Hotels. Africa Hotels is obligated to refrain from operating in
the areas of operation of the Company or its subsidiaries – real estate development,
construction and insurance.5 Furthermore, the Company and Africa Hotels assumed an
obligation that the Company or its subsidiaries would not execute any future projects in
which Africa Hotels holds a share exceeding 50%.
1.1.6.2
The Company is obligated, vis a vis Danya, pursuant to an agreement signed by the
parties in February 2000 (hereinafter, in paragraph 1.1.6, "the Danya Agreement"),
subject to several specified exceptions, to: (1) hand over to Danya the execution of all
construction works on projects6 in which the share of the Company (or of a wholly owned
subsidiary thereof) is 100%; (2) hand over or to apply its best efforts to have handed over
1
As part of a transaction completed in January and February 2007, the Company purchased from Messrs Yossi
Packer, Nili Packer, Uri Packer and Talya Packer (including from companies controlled thereby)(hereinafter,
"the Packer Family") the entire holdings of the Packer Family in Packer Steel Ltd (constituting 65.48% of the
rights in equity, less dormant shares) as at the transaction closing date, for a consideration of NIS 75.3 millions.
Shortly prior to the transaction closing, the Company owned 41.95% of the rights in equity and voting rights in
Packer Steel Ltd.
2
As from the financial statements dated March 31, 2007, these operations (formerly deemed an investment) will
be included in the Company's new segment of operations, "Industry."
3
Reference to Packer Steel Ltd's holding in Negev Ceramics Ltd, see chart of Company holdings in paragraph
1.1.11 hereinafter.
4
As from the financial statements dated March 31, 2007, these operations (formerly deemed an investment) will
be included in the Company's new segment of operations, "Industry."
5
This undertaking was assumed as part of the prospectus in respect of an offer to the public of shares of Africa
Hotels in October 1993. At that time, the Company operates in the said areas.
6
"Projects" are defined in the Danya Agreement as real estate development and contracting projects in which the
Company and any wholly owned and controlled subsidiary thereof participates as a contractor or developer, and
which include the execution of construction works, excluding projects that were excluded from the Danya
Agreement.
5
to Danya said works, in projects in which the Company's share is less than 100% and/or
which are to be executed by companies in which the Company's share is less than 100%.1
On its part, Danya assumed the following obligations toward the Company (subject to the
specified exceptions): (1) to execute the said works to be handed thereto for execution;
(2) to refrain from engaging, either directly or through its subsidiaries, in real estate
development transactions (as defined in the Agreement) other than in cases specified in
the Danya Agreement.2 In the cases in which Danya is permitted to engage in the said
transactions, the Company undertook to provide, and Danya undertook to accept
marketing and sales management services on specific terms. The undertakings by the
Company and by Danya pursuant to the Danya Agreement, are, as at the date of the
Periodic Report, and subject to the specified exceptions, in effect for an unlimited period
and may be terminated by any party by notice three months in advance.
1.1.6.3
The Company assumed an obligation toward Africa Properties, pursuant to an agreement
signed by the parties in September 2004 (hereinafter in paragraph 1.1.6, "the Africa
Properties Agreement"), subject to specified exceptions, (1) that it would not engage in
operations related to rental properties3 anywhere in the world, with the exception of USA,
Russia and CIS; (2) it would not hold a single class of means of control (as defined in the
Securities Law-1968, hereinafter "the Securities Law") in a quantity exceeding 50% in
any corporation engaged in said operations, with the exception of corporations that are
public companies (as defined in the Companies Law-1999, hereinafter, "the Companies
Law"). The Africa Properties Agreement came into effect on the registration date of
1
The agreement does not apply to projects of subsidiaries or related companies whose securities have been
and/or will be offered to the public pursuant to a prospectus and will be held by the public, and projects of
companies that will be held by said companies, excluding Africa Residences, and, subject to the right set forth
hereinafter, Africa Properties as well. The Company exercised its right under the agreement and made notice of
the termination of the agreement with respect to Africa Properties. Under the prospectus dated June, 2006,
pursuant to which Africa Residences offered its securities to the public, Africa Residences declared that it
intends to continue to enter into agreements with Danya regarding the execution of construction works in
projects, in the normal course of its business and at conventional market terms. Africa Residences furthermore
declared that it intends to take steps to reach an agreement (hereinafter, "the Revised Framework Agreement")
with the Company to regulate their mutual obligations and which would constitute a "framework transaction" as
this term is defined in the Companies Regulations (Exemptions on Transactions with Interested Parties)-2000
(hereinafter, "Exemption Regulations"), and that as long as the said agreement is not duly approved, agreements
with Danya will be under the provisions of Part Five of Chapter Six of the Companies Law in the matter of
approval of transactions with interested parties. As at the date of the periodic agreement, Africa Residences and
Danya Cebus are conducting negotiations for the formulation of the Revised Framework Agreement in terms of
the relationship between Africa Residences and Danya Cebus.
2
In this matter it is clarified that nothing in the aforesaid prevents the Company from waiving its rights toward
Danya pursuant to the Danya Agreement regarding real estate development transactions in respect of which the
Company deems it proper to do so, at its exclusive and absolute discretion and without conferring on Danya any
right to demand said waiver.
3
Rental properties were defined in the Africa Properties Agreement as real estate assets for rent for various uses,
including, and without detracting from the generality of the aforesaid, residential uses, parking, storage, archives,
offices, industry and commerce, including as part of office buildings, shopping centers, malls, industrial parks,
etc.
6
Africa Properties' securities for trade on the TASE (October 2004) and will remain in
effect, subject to exceptions, for a period of five years.
1.1.6.4
The Company assumed an obligation toward Africa Residences, as part of an agreement
signed by the parties in June 2006 (hereinafter in paragraph 1.1.6, "Africa Residences
Agreement"), that subject to specified exceptions: (1) it will not engage in residential real
estate development1 in Israel and the region (as defined in the Income Tax Ordinance
[New Version], hereinafter, "the Income Tax Ordinance" or "the Ordinance"); (2) it will
not hold a single class of means of control (as defined in the Securities Law-1968,
hereinafter "the Securities Law") in a quantity exceeding 50% in any corporation engaged
in said operations, with the exception of corporations that are public companies (as
defined in the Companies Law); (3) it would abstain from exercising its right to waive its
rights toward Danya Cebus pursuant to the Danya Agreement, in a manner that detracts
from the rights of Africa Residences pursuant to the agreement. Africa Residences
undertook, on its part (unlimited in time) to refrain from engaging in real estate
operations outside Israel and the region (as defined in the Income Tax Ordinance). The
Africa Residences Agreement came into effect on the registration date of of Africa
Residences' securities for trade on the TASE (July 2006) and will remain in effect,
subject to exceptions, for a period of five years.
1.1.6.5
As at the date of the Periodic Report, the Company is negotiating with a foreign
subsidiary (hereinafter in paragraph 1.1.6.5, "the Subsidiary") which concentrates the
major part of the Company's operations, including that of all its subsidiaries (hereinabove
and hereinafter, "the Group" or "The Company Group") in this area of operations in
Russia, regarding the possible examination of assuming an obligation by the Company
toward the Subsidiary as part of an agreement to be signed by the parties (hereinafter in
paragraph 1.1.6, "Russian Operations Delineation Agreement"), pursuant to which and
subject to specified exceptions: (1) the Company will not engage in real estate operations2
in Russia other than through the Subsidiary, with the exception of operations in the city of
Kislovodsk in the northern Caucasus in Russia; (2) the Company will not hold any single
1
Residential real estate development operations are defined in the Africa Residence Agreement, as the
acquisition of rights in real estate, as defined in the Real Estate Taxation Law (Betterment, Sale and
Acquisition)-1963, in assets designated for residential uses, the development of assets designated for residential
uses (including the development and rezoning of City Building Plans in respect of assets designated for
residential uses), entering into profit sharing transactions and/or transactions that have typical attributes of
residential real estate development transactions, the acquisition of rights in companies that operate or will operate
in the area of residential real estate development, the management of construction projects in respect of assets
designated for residential uses (including the rendering of financial management, engineering management, and
marketing and sales management services), excluding the execution of construction works as a contractor.
2
Real estate operations are defined in the agreement in respect the operations in Russia, as real estate asset
development (rental properties and residential properties), and the acquisition of rights in real estate for the
purpose of development.
7
class of means of control in a quantity exceeding 50% in any corporation engaged in said
operations, with the exception of Danya, Africa Hotels and any corporation that is a
public company (as defined in the Companies Law) or a company controlled by a public
company. The Russian Operations Delineation Agreement, to the extent that it is
executed, will be contingent, among other things, on the registration of the shares of the
Subsidiary for trade on the LSE, and will remain in effect, subject to exceptions, for a
period of 7 years and will expire if the Company ceases to be the controlling owner of the
Subsidiary.
1.1.7
The Company additionally has a holding, either directly or indirectly, in a large number
of other corporations, including affiliated public corporations whose shares are listed for
trade on the TASE1, as follows: (1) Dor Alon Energy Israel (1998) Ltd; (2) Blue Square
– Israel Ltd (a dual-listed company, also listed for trade on the NYSE); (3) Blue Square
Real Estate Ltd. and (4) Blue Square Chain Properties and Investments Ltd;
furthermore the Group has an interest in an affiliate, Alon USA Inc,2 whose shares are
listed on the NYSE.
1.1.8
As noted hereinabove, the Company has a holding in a large number of corporations
engaged in various operations. For details on the areas in which the Group operates, see
paragraph 1.1.9 hereinafter. It is hereby clarified that in view of the holdings in a large
number of corporations, as noted hereinabove, including the description in this chapter
hereinafter, specifically details pertaining to material corporations in which the
Company has a holding. The Company views its holdings in a company as a material
holding if and to the extent that its investment therein (as included in the Company's
financial statements as at December 31, 2006) constitutes no less than 5% of the
Company's shareholders' equity (according to its consolidated financial statements).
Furthermore, even if the hereinabove condition is not satisfied, the Company views its
holdings in a company as a material holding if its is substantial to the Group and/or to
its operations due to other circumstances (including circumstances which constitute
forward-looking information), such as the need for a significant investment in the
future, a significant return in the future, exposure of and significant risks to the
Company's operations, etc. In this context it is further clarified that in general, the
description contained in this periodic report includes only information which the
Company considers material information. Nonetheless, in several cases, in order to
present a complete picture, the Company included a description of greater detail than
required, and included information which it does not necessarily consider material
1
2
All the hereinabove companies are held through Alon Israel Fuel Company Ltd.
This company is held through Alon Israel Fuel Company Ltd.
8
information.
1.1.9
As at the date of the Periodic Report, the Group is engaged in holdings and investments
in a diverse range of areas of operation in Israel and overseas. The Group’s business
policy is based on investment planning, identifying business opportunities, and a high
standard of entrepreneurship and management. The Group operates in six areas that are
reported as its main segments in the Company’s financial statements as at December
31, 2006, as follows:
A.
B.
Rental properties
C.
Construction and contracting
D.
Infrastructure contracting
E.
Textile
F.
Hotels and leisure
In addition to the areas of operation specified hereinabove, the Group operates in the
following areas which, due to the scope of involvement, do not meet the definition of a
business segment as this term is defined in general accepted accounting principles
and/or the definition of an area of operations as this term is defined in the Securities
Regulations (Details of Prospectus, Structure and Form)-1969: (1) activities in the
capital market, see paragraph 1.14.1 hereinafter; (2) activities as part of the planning,
construction, operation, and financing of a prison, see paragraph 1.14.2 hereinafter.
Furthermore, the Group has investments in companies that operate in the following
areas: BOT project operation, energy, retail, communications and telecommunications,
see paragraphs 1.17 through 1.22 hereinafter.
1.1.10
The Group operates in countries all over the world including the following countries:
Israel, USA, Canada, Russia, Eastern and Central Europe, and invests in additional
countries worldwide.
1.1.11
Chart of the Company’s holdings1 - The following is a chart of the Company’s holdings
in the primary corporations in which the Company owned a holding as at December 31,
2006:2
1
In this Periodic Report hereinabove and hereinafter, unless stated otherwise, the interest in any company is
calculated according to issued share capital, without taking into consideration any dilution due to the exercise
and/or conversion of outstanding convertible securities.
2
It is hereby clarified that the Company has holdings in additional companies and partnerships that are inactive
or are immaterial to the Company’s overall operations and therefore are not noted in the hereinabove chart.
9
Africa Israel Investments Ltd.
Rental
Properties
Contracting and
Construction
Real Estate
Development
Africa Israel
Properties Ltd.
68.72%
Africa Israel
Trade &
Agencies Ltd.
100%
Danya Cebus
Ltd.
73.4%
Africa Israel
Housing Ltd.
79.37%
E.M.T. Neve
Savyon Ltd.
33.3%
Renanot
Enterprises &
Investments Ltd.
50%
Armon
Hahagmon Ltd..
50%
Armon Habsora
Ltd. *
99%
Cebus Rimon
Building
Industries and
Development
Ltd. 100%
Cebus Rimon
Industrial
Construction
Ltd.
100%
Danya Cebus
Projects (2003)
Ltd.
100%
Yovelim
Personnel Ltd.
100%
Af-Sar Ltd.
100%
One Half Jubilee
Ltd.
50%
Givat Savyon
Ltd.
85%
Kiryat Hamada
Migdal
Ha-Emek Ltd.
100%
Flamingo Ltd.
100%
Lev Talpiot
Management and
Holdings Ltd.
40%
Meqarqe’e
Merkaz Ltd.
73.4%
Danya
International
Holdings Ltd.
100%
Danya Cebus Cyprus
100%
Danya Dutch B.V.
100%
Rumbrol Trading Ltd.
80%
Aviv Shopping
Mall
Management and
Holdings Ltd.
100%
Danya Rus
100%
Mercaz Savyonim
Management and
Holdings Ltd..
100%
Haifa Quarries
Ltd. 45%
Panorama Center
Services Ltd.
12%
Africa Israel International
Properties (2002) Ltd.
100%
A.I.E.E. Overschie B.V.
100%
Africa Israel Properties
(Philippines) 100%
AFI Europe NV 100%
Foreign companies:
Czech Republic,
Holland, Canada, Serbia,
Romania, Bulgaria
Afriram Ltd.
40%
Africa Israel
International
Investments
(1997) Ltd.
100%
Praha – Sen
s.r.o.
50%
AI Holdings
(U.S.A) Corp.*
100%
AILA Corp.
100%
A.I. Properties and
Development (USA)
Corp. 100%
(Projects 36.9%-65%)
AI Florida holdings inc.
Corp. 100%
(Projects 65%)
AI Nevada holdings inc
100%
(Las Vegas projects
16.5%)
AI Myrtle Beach llc.
100%
(S. Carolina projects
17.5%)
Africa Israel
International
Holdings Ltd.
100%
AI (ECE)
Development
100%
Foreign Holding
Companies
Operations in
Russia *
88%
Hotels and
Leisure
Africa Israel
Trade &
Agencies Ltd.
100%
Africa Israel
Hotels Ltd.
86.08%
Africa Israel
Tourism and
Resorts Ltd.
98%
Tiberias Hot
Springs Co. Ltd.
99.9%
Jordan Hotel
M.H.Y. Ltd.
99 9%
Etzion Gever –
Limited
Partnership
37%
AKD Projects &
Construction
(1990) Ltd.
100%
Afdor Ltd.
100%
Eilat Patio Hotel
Ltd.
100%
Massechet Eilat
Ltd.
100%
P.D. Hotels Ltd.
100%
Nouana Limited
50%
Triel Limited
100%
Eitan (Cyprus)
Limited
100%
Eitan (Russia)
Limited
100%
Craespon
Limited
50%
Plaza Spa
Kislovodsk
Limited
100%
10
Textile
Africa Israel
International
Holdings Ltd.
100%
Foreign Holding
Companies
50%
Gottex Models
Ltd.
100%
Infrastructure
Contracting
Danya Cebus
Ltd.
73.28%
Netivei Hayovel
Ltd.
100%
Derech Eretz
Construction
Joint Venture
(C.J.V.)
33.3%
Gottex Brands
(Registered
Partnership)
100%
Christina
America Inc.
100%
Other
Africa Israel
(Finance) 1985
Ltd.
100%
Anglo Saxon
Real Estate
Agency (Israel
1992) Ltd.
100%
Africa Israel
Financing and
Strategies Ltd.
100%
Africa Israel
Investment
House Ltd.
60%
Subsidiaries
100%
A.L.A.
Management and
Operations
(2005) Ltd.
50%
Africa Israel
Energy Ltd.
51%
* These companies have also income-producing operations.
11
(Subsidiaries)
Communication
Industry
Africa Israel
Trade &
Agencies Ltd.
100%
Packer Plada
Ltd.
49%
Mapal
Communications
Ltd. 20%
Vash Telecanal
Ltd.
About 46.2%
Packer Plada
Investments
(1963) Ltd.
100%
Packer Plada
Trading
(1981) Ltd.
100%
Packer YDPZ
Ltd.
65.7%
Packer YDPZ
Steel Services
Ltd.
100%
Packer YDPZ
Profiles Ltd.
100%
Packer YDPZ
Dike Steels Ltd.
100%
Yamco YDPZ
Industries Ltd.
100%
Negev Ceramics
Ltd.
70.25%
Shlomo
Rapport and
Co. Ltd.
100%
Negev Ceramics
Marketing
(1982) Ltd.
100%
BOT
Infrastructures
Telecommunication
Energy and
Retail
Derech Eretz
Highways
Management
Ltd.
24.5%
Africa Israel
Communications
Ltd.
50.1%
Africa Israel
Trade &
Agencies Ltd.
100%
Foreign US
Company
75%
Alon – The
Israel Fuel
Company Ltd.
26.15%
Derech Eretz
Highways
(1997) Ltd.
37.5%
Derech Eretz
Telecom Ltd.
100%
Af-Ran Ltd.
50%
Tadiran Telecom
Ltd.
85.7%
Dor Alon
Energy Israel
(1988) Ltd.
89%
Dor Alon Gas
Technologies
Ltd.
100%
Dor Alon Tiful
Gas Stations
100%
Dor Delek Fast
Food
Restaurants
Management
(2001) Ltd.
99%
Alon USA
and Subsidiaries
72%
Bronfman–Alon
Ltd.
73.5%
Blue Square
Israel Ltd.
76.89%
Blue Square
Network –
Properties and
Investments Ltd.
80.71%
Blue Square
Real Estate Ltd.
80.71%
Maklef 51 Ltd.
50%
12
1.2
The Company’s main segments
As noted hereinabove, the Company has six areas of operations that are reported as
business segments in its financial statements as at December 31, 2006 (also see Note 36
to the said financial statements). Following is a brief description of these segments:
1.2.1
Real Estate Development
In this segment, the Group focuses on the development of projects designed for
residential, office and commercial uses, in Israel and overseas, by locating and acquiring
land, constructing the buildings selling the units. In Israel, real estate development
operations are mainly residential real estate development. These operations are executed
primarily through the subsidiary, Africa Residences, a public company whose shares are
listed for trade on the TASE. As of 1997, the Company has expanded its operations in
this area outside Israel, through foreign investee companies that invest in various real
estate ventures, including construction, acquisition or investment in projects in the US,
Russia, Central and Eastern Europe, and the Philippines.
1.2.2
Rental Properties
In this segment, the Group is engaged in the development, construction and rental and
operation of industrial, office and commercial buildings in Israel and overseas. As at the
date of the Periodic Report, the Group's overseas operations in this segment are
conducted primarily in the US, Russia, and Eastern and Central Europe. In Israel. The
Group’s activities in this segment are conducted primarily by its subsidiary, Africa
Properties (including its subsidiaries), a public company whose shares are listed for trade
on the TASE. Outside Israel, the Group's activities in this segment (with the exception of
operations in the US and Russia) are conducted primarily by subsidiaries of Africa
Properties.
1.2.3
Construction and Contracting
The Group executes its construction and contracting activities primarily through the
Company’s subsidiary, Danya Cebus Ltd. and its subsidiaries, which are engaged in
residential and non-residential construction. Danya Cebus is a public company whose
shares are listed for trade on the TASE.
As at the date of the Periodic Report, the vast majority of construction operations are
performed in Israel, and an insignificant portion thereof are performed overseas.
1.2.4
Infrastructure Contracting
In this segment, the Group operates primarily through Danya Cebus and its subsidiaries,
as a concessionaire or contractor of transportation infrastructure such as bridges,
highways and railroad lines. For purposes of these activities, the Group, through its
13
subsidiary, manufactures prefabricated products. Its activities in the infrastructure
segment are mainly for the public sector, either directly or indirectly, that is for the
government, government-owned companies and auxiliary units or for private developers
who were awarded tenders issued by the public sector as PPP projects (Private Public
Partnership) in which the private sector executes, finances and operates the project (i.e.,
BOT, PFI and similar project types).
1.2.5
Textile1
As at December 31, 2006, the Group's activities in this segment include the design,
manufacture and marketing of beachwear, swimwear and shapewear, through
subsidiaries (Gottex Models Ltd and Christina America Inc); and the sale of apparel,
shoes and accessories for men, women and children, under the Zara and Pull and Bear
brand names, in the retail fashion market in Israel, through Gottex Brands-Registered
Partnership.
1.2.6
Hotels and Leisure
In this segment, the Group is engaged in hotels and leisure, health resort and spa
operations, and is a partner in the operation of a theme park. The Group’s activities in this
segment are concentrated primarily by a subsidiary, Africa Hotels, and its subsidiaries.
Africa Hotels is a public company whose shares are listed for trade on the TASE. Africa
Hotels holds the concession for operating hotels under the brand names “Holiday Inn,”
“Crowne Plaza” and “Holiday Inn Express,” and Africa Hotels and its subsidiaries
operate hotels throughout Israel, and Hamei Tveria thermal springs. In addition, Africa
Hotels is a partner in Kings City, a theme park in Eilat. In recent years, Africa Hotels has
expanded its operations overseas and has commenced operations in Russia.
1.3
Investments in the Company’s capital and transactions in its shares
1.3.1
The Company's issued and paid-in share capital as at the date of the Periodic Report is
NIS 4,980,918, divided into 49,809,180 ordinary registered shares, par value NIS 0.1
each.
The following table presents the development of the Company's issued and paid-in
share capital in the three years preceding the date of the Periodic Report:
1
See also paragraph 16, hereinafter.
14
Consideration
Date
Nature of change
Balance as at March 31, 2004
Type of share
Ordinary Shares of NIS.0.1
n.v.
Ordinary Shares of NIS.1 n.v.
Issued and
paid-up
share capital
(NIS)
(NIS thousands)
-
463,223.2
4,632,232
Issue of 20,140 shares following
App. 1,563
exercise of non-negotiable options
(Series A)
Aug 18, 2004
App. 3,610
(Series B)
Aug 25, 2004
App. 19,755
(Series B)
Dec 22, 2004
App. 9,843
(Series B)
Jan 17, 2005
App. 30,962
(Series A and B)
Apr 10,2006
App. 4,200
(Series B)
Apr 11, 2006
App. 8,800
(Series A)
Apr 26, 2006
App. 2,644
(Series B)
App. 8,826
May 8, 2006
(Series A)
May 10, 2006
Issue of 1,573,030 shares - private Ordinary Shares of NIS.1 n.v.
App. 386,173
placement
App. 381
Jul 12, 2006
exercise of former CEO
Aug 9, 2006
App. 2,674
(Series A)
App. 0.52
Aug 24, 2006
exercise of former CEO
Dec 3, 2006
App. 21,860
(Series A)
Total issued and paid-up share capital in NIS as at the date of the Periodic Report: 49,980,918
4,634,246
Apr 22, 2004
May 31, .2004
1.3.2
Issue of
41,690,088 Bonus Shares
4,638,841
4,663,987
4,676,559
4,716,377
4,722,204
4,734,554
4,738,221
4,750,571
4,907,874
4,945,874
4,949,579
4,950,043
4,980,918
Following are details, to the best of the Company's knowledge, regarding material
transactions3 conducted by an interested party in the Company in the Company' shares
outside the stock exchange during the two-year period preceding the date of the
1
Pursuant to the terms of the option plan of the former CEO, the former CEO was issued shares whose total
market value reflects the monetary bonus component to which he was entitled under the terms of the plan,
against payment of only the nominal value of the Company shares.
2
See footnote 1 hereinabove.
3
In this matter, material transactions are transactions regarding a quantity of shares which constituted, as at the
transaction date, 5% or more of the Company's issued share capital and/or voting rights therein.
15
Periodic Report:
In February 2006, an agreement was signed by Mr. Lev Leviev and/or companies
wholly owned and controlled by Mr. Leviev, and by Bank Leumi, pursuant to which
Mr. Leviev purchased (including through his wholly owned companies) in March 2006
the holdings of Bank Leumi in the Company (7,464,759.26 ordinary shares of the
Company which constituted 15.83% of the Company's issued share capital and voting
rights therein as at December 31, 2005 without full dilution), for a consideration of the
total amount of NIS 1,120,000 thousands (not including linkage and interest
differentials from the execution date of the said agreement), which reflects a share price
of NIS 150 per ordinary share of the Company.1 Accordingly, as from March 2006,
Bank Leumi ceased to be an interested party of the Company.
1.4
Dividends
1.4.1
The Company distributed the following dividends in the three-year period preceding
the date of the Periodic Report:
1.4.1.1
On April 19, 2004, the Company distributed a cash dividend in the amount of NIS
180,000,000.
1.4.1.2
200,000,000.
1.4.1.3
200,000,000.
1.4.1.4
On March 25, 2007, the Company's Board of Directors declared a cash dividend in the
amount of NIS 360 million. The determining date of entitlement to receive the said
dividend is April 15, 2007 and the dividend is expected to be paid on May 1, 2007.
1.4.2
Pursuant to the Company's consolidated financial statements, the Company has a
positive balance of retained earnings, as at December 31, 2006 (in the amount of NIS
1.5 billion)2 and its total accrued earnings over the past two years is positive,
consequently it may, as at the date of the Periodic Report, distribute a dividend.
1.4.3
For details on the Company's covenants pertaining to financial ratios, see paragraph
1.23 hereinafter.
1
To the Company's best knowledge, a motion was filed in March 2007 by shareholders of Bank Leumi, to
approve a derivate claim against Mr. Lev Leviev and senior officers of Bank Leumi (including officers who, as
noted, served as directors in the Company on behalf of Bank Leumi), arguing that the transaction was effected at
a value lower than the genuine value of the Company, such that Bank Leumi incurred damage estimated by the
applicant at NIS 158 millions.
2
The surplus balance is presented net a dividend in the amount of NIS 360 millions, declared after the balance
sheet date.
16
CHAPTER 2 – OTHER INFORMATION
1.5
Financial information on the Company’s segments
1.5.1
For details relating to the financial information concerning the Company’s segments in
the years 2004 through 2006, including adjustments made thereto, see Note 36 to the
financial statements of the Company as at December 31, 2006.
1.5.2
Concerning developments that occurred, see explanations in the Report of the
Company’s Board of Directors for the year 2006.
1.6
Changes in the segmentation of operations
As of the second quarter of 2006, the Group's holdings in Tadiran Telecom Ltd (which
was up to that date considered a proportionately consolidated company) are presented
as an equity investment. Accordingly, as of that date, the segment formerly defined as
"Industry" (and currently defined as "Textile")1 no longer includes the group of
"business telephone switchboard" products that are manufactured and marketed by
Tadiran Telecom Ltd.
1.7
The general environment and the effect of external factors on the Company’s
operations
1.7.1
The state of the Israeli economy
As a company active, inter alia, in the Israel real estate industry, the Company is
affected by changes in the state of the economy in general, and the state of the real
estate industry in particular.
According to publications of the Ministry of Construction and Housing, the
improvement in economic growth and decline in short term interest and mortgage
interest rates has not, until now, found expression in the construction industry. In 2006,
leading indicators of the construction industry pointed to mixed trends compared to
2005. Some indicators pointed to growth (number of transactions in the economy,
revenues from taxes, and private sector sales), while other indicated a continued state of
slowdown, especially in the peripheral areas of the country. The significant weakening
of the USD may cause a rise in dollar-based prices of second hard apartments and
leased apartments. Since early 2005, a decline in unemployment rates has been
recorded although unemployment remains as high as 8.3% in November 2006
(compared to 9.3% in January 2005 and 10.4% in 2004).
1
Whereas the segment of operations called "Industry" until the financial statements as at December 31, 2006
(hereinafter, in this paragraph, "the said segment of operations") includes, after the presentation of operations of
Telecom Communications Ltd as an investment, only operations in the textile sector, and whereas as from the
financial statements as at March 31, 2007 and onwards the Company will consolidate the operations of Packer
Steel Ltd and Negev Ceramics Ltd under a new segment of operations to be called "Industry," the Company
decided to change the name of the said segment of operations to "Textile."
17
1.7.2
State of the Economy
According to publications of the Ministry of Construction and Housing, economic
growth that had characterized recent years continued in 2006. The increase in
government spending and the slowdown in economic activities due to the fighting in
the north in the summer had a somewhat adverse impact on national product growth,
although the Central Bureau of Statistics' projections remained at 5% for the year 2006
(an improvement compared to previous estimates published subsequent the fighting).
National product growth in 2006 was a continuation of the 5.2% growth in 2005 and
4.4% in 2004.
Regarding the demand for housing – pursuant to provisional data of the Ministry of
Construction and Housing, the upward trend in the total number of transactions in the
economy involving residential apartments (new and second-hand apartments)
continued between January 2006 and November 2006. This was an increase of 2%
compared to 2005, and a 22% increase compared to 2002 (since 2002, the scope of
transactions involving residential apartments in the economy has increased).
Sales - an increase of 3% was recorded in private sector sales (medium-sized and large
apartments, primarily in the center of the country, and 15% in the Negev and the
Galilee) between January and November 2006, compared to the corresponding period
of the preceding year (2005 sales were similar to 2004 sales in scope).
Construction starts – Between January to October 2006, there were construction starts
of 24,500 residential units, reflecting a 5% decline compared to the corresponding
period of the preceding year. The inventory of new unsold apartments in the economy
decreased steadily in recent years. As at December 2006, there were 18,515 unsold new
apartments, reflecting a slight 1% decrease compared to December 2005.
Inventory – the inventory of unsold new apartments has steadily decreased in recent
years. As at December 2006, there were 18,515 unsold new apartments, reflecting a
slight 1% decrease compared to December 2005.1
Furthermore it is noted that economic recession or growth has a directly impact on the
tourism industry, and consequently on the Group's operations in the hotel and leisure
segment. The hotel and leisure industry is especially sensitive to changes in the state of
the economy and is perceived as a luxury good by consumers.
1.7.3
The security situation
The deterioration of Israel’s security and political situation, when it occurs, has a direct
effect on the real estate industry and on the hotel and leisure industry. Security crises
are reflected in a drop in the demand for rental space and residential units, a shortage of
1
Pursuant to data published by the Ministry of Construction and Housing.
18
manpower in the construction sector, a rise in building costs and a decline in the extent
of incoming tourism.
The Company is also affected by the security situation in countries where the Group is
active outside Israel. The US in general and New York in particular are major targets of
international terrorist organizations and, therefore, the Company’s activities in the US
are subject to risks effecting the demand for its products.
1.7.4
The state of the global economy
The state of the economies of countries outside Israel where the Company is active,
directly affect the demand for the products offered by the Group.
1.7.4.1
The US
A
Unemployment – is a material factor that affects the level of demand in the housing
market. A rise in the unemployment rate is generally accompanied by a decline in the
demand for apartments for sale. In January 2007, US unemployment was 4.6%.1
B
Interest rates – the interest rates on long-term mortgages have a direct effect on the
demand for apartments for sale. As at the date of the Periodic Report, interest rates in
the US were 5.25% and were not expected to increase in the forthcoming months. A
rise in the aforesaid interest rate causes a decline in the demand for apartments for sale.
C.
As a business, cultural and social center, New York attracts many apartment buyers.
The recovery of the world economy has directed additional funds to local real estate
investments.
1.7.4.2
Russia
The economy in Russia continued to grow at an accelerated rate in 2005 (although at a
slower rate than in 2004), with declining unemployment, a growing middle class,
increasing domestic demand and increase in foreign investments. The growth rate for
2005 is expected to be 2.8% compared to 7.1% in 2004.
Surplus demand for residential apartments in Moscow remained stable in 2005. This
surplus, as well as the developments in the mortgage market, among other things, led to
increasing prices of apartments.
At the same time, the business environment in which the Company operates in Russia
is not stable, both from the political perspective as well as the economical perspective.
The Group’s operations in Russia are exposed to risks that are not typical of operations
in other countries.
1.7.5
The foreign currency market
The Group is exposed to fluctuations in foreign-currency exchange rates, due to the
following reasons: the Group has loans and deposits in various currencies; the Group
1
Pursuant to "Modeleim Calcaliim" data dated February 6, 2007 www.modelim.co.il.
19
maintains operations in various countries that use different currencies; and the Group
has liabilities that are partly linked, directly or indirectly, to foreign-currency exchange
rates.
1.7.6
Terms of bank financing
The Company believes that the real estate industry is characterized by a high degree of
financial risk, stemming, among other things, from the extended horizon involved in
obtaining planning and approval for each project. During economic slowdowns, banks
tend to set more stringent conditions for credit, in a manner that makes it difficult to
obtain bank finance for the construction industry, and leads to liquidity issues for many
real estate companies. Due to the Company's financial strength and its access to
banking and non-banking sources of finance, this trend has not affected the Company to
date.
1.7.7
Changes in legislation and accounting standards
For details of new accounting standards, see Note 1 to the financial statements of the
Company as at December 31, 2006.
The Company’s management regularly examines the extent of the market risks to
which the Group, and specifically the Company, are exposed, and accordingly decides
on modifications to its risk management policy and the defensive actions required.
20
CHAPTER 3 – DESCRIPTION OF THE COMPANY’S BUSINESS BY SEGMENT
The following is a description of the Group’s businesses, separately for each of the group's segments
(real estate development, rental properties, construction, infrastructure contracting, textile, hotel and
leisure). A description pertaining to the Group's operations in general is presented in Chapter 4,
hereinafter.
1.8
In this segment, the Group focuses on the development of projects designated for
residential purposes, offices and commercial uses, by locating and acquiring lands,
constructing the buildings and selling the units. The Group's rights in land it purchases
are property rights and/pr leasehold rights and/or contractual rights and/or others. The
following outline details this segment, separately for the Group’s operations in Israel,
and its operations overseas.
1.8.1
Real estate development in Israel
1.8.1.1
General information on the segment
In Israel, real estate development is primarily the development of real estate for
residential uses. These operations are mainly performed by the subsidiary, Africa
Residences,1 which is active in the identification, purchase, rezoning and planning of
land, the construction of the buildings and the marketing of the units. The following is a
description of the trends, events and developments in the residential construction sector
in Israel.2 On a national level, based on publications of the Ministry of Construction
and Housing, in 2006 leading real estate industry indicators in Israel pointed to mixed
trends. Some indicated growth (number of transactions, revenues from taxes, private
sector sales) while other indicated a continued trend of slowdown especially in the
peripheral regions of the country. According to publications of the Central Bureau of
Statistics, a nominal rise in prices was recorded in the last three years, especially in the
Jerusalem, Tel Aviv and Sharon districts.
A.
Structure of Israel’s residential building sector and changes therein
According to publications of the Ministry of Construction and Housing, the residential
construction industry in Israel is divided into publicly initiated developments (initiated
1
Africa Residences initially offered its shares to the public pursuant to a prospectus dated June 2006. The
securities of Africa Residences were listed for trade on the TASE in July 2006. As at the date of the Periodic
Report, the Company holds 79.37% of the share capital and voting rights of Africa Residences.
2
The data in this paragraph are based, as set forth in the body of the paragraph, on publications by the Ministry
of Construction and Housing dated January 2007 and February 2007 (hereinafter, "Ministry of Construction and
Housing Publications"). This paragraph includes forward-looking information that is based on the Company's
assessment of the economy and the factors influencing the state of the economy, based on, among other things,
economic data and a review of developments in the real estate sector in recent years.
21
by the Ministry of Construction & Housing), concentrated primarily in national priority
areas and in the peripheries, and private construction, concentrated primarily in central
Israel, and generally characterized by medium and large-size residential units. The
construction industry in the private sector, especially in central Israel and in contrast to
the public sector, began to manifest signs of recovery in 2005 and 2006.
Israel’s residential construction industry is affected by several principal indicators,
mainly:
(1)
Demand for housing – which, according to the Company's estimates, is
influenced by the volume of immigration into Israel, the socio-economic status
of the population (unemployment rate, wage levels etc.), scope of foreign
investments in the domestic residential market in Israel, government incentives
to purchasers of residential units (grants to the eligible, development area grants
and so forth), and mortgage rates. Decreasing interest rates, since 2003, led to a
relative increase in the demand for mortgages in the private sector. In 2006, the
upward trend in the total number of transactions in the economy pertaining to
residential units continued. The increase is concentrated primarily in luxury
apartments and specific regions, and stems primarily from foreign residents.
Sales of new apartments in the private sector demonstrated an increase
compared to 2005, contrary to the sharp decline that characterized public sector
construction.
(2)
The supply of apartments – According to publications of the Ministry of Construction
and Housing, the number of new unsold apartment has declined steadily in recent years.
The inventory stemming from public construction has shown an increase of 13% in
2006 compared to 2005, due to the sharp showdown in sales, while the inventory
resulting from private construction declined by 7%. According to publications of the
Ministry of Construction and Housing, as at the end of 2006, annual average
construction starts in the economy are lower that estimated multi-annual needs.
(3)
Housing prices – According to publications of the Ministry of Construction and
Housing, following a decline in prices in real terms between 2000 and 2003 (with
prices falling by 6% in 2003), 2004 and 2005 were marked by stability in housing
prices. In the two first trimesters of 2006, prices rose by a nominal 2.1% compared to
the 2005 average. According to publications of the Ministry of Construction and
Housing, in the last three years, apartment prices by area showed a nominal increase,
especially in Jerusalem, Tel Aviv and Sharon districts. Apparently, the rising prices in
these districts were affected by the purchases of luxury apartments
22
B.
Restrictions, legislation, standards and special constraints applying to the
residential construction sector
According to the Company's estimates, the real estate sector in general, and the
residential construction sector in particular are affected by regulatory decisions in a
number of areas:
(1)
Availability of land for sale – most of the land in Israel is owned or administered by the
State. Lands become zoned for residential uses in accordance with the State’s land
development plans. The Israel Lands Administration (ILA) issues invitations to tender
in relation to lands, but most of the land on offer is located in peripheral regions, where
demand is relatively low, whereas in high-demand areas, available land tends to belong
to the un-zoned lands category, regarding which no approved plans exist. This state of
affairs results in a shortage of land in high-demand areas.
(2)
Labor – construction in Israel is labor-intensive. In the past, contractors relied primarily
on workers from the Palestinian territories. At the present time, however, due to the
security situation, foreign workers perform most of the work. The Ministry of Labor
and Welfare is currently taking steps to curtail the presence of foreign workers by
reducing the number of permits issued, extradite illegal workers and charge a levy from
employers for the issuance of permits. According to publications of the Ministry of
Construction and Housing, there has been a marked decline in the number of foreign
workers and Palestinians in this sector, and a corresponding rise in the number of
workers who are Israeli residents. Pursuant to a government resolution of September
2006, foreign worker quotas in the construction sector will be gradually restricted and
finally cancelled in 2010.
(3)
The mortgage market – the great majority of apartment purchasers finance their
housing purchases by means of mortgages – secured loans, in the form of both
government assistance loans to persons eligible for housing, and in the form of ordinary
mortgage loans. In April 2003, the Government passed a resolution eliminating housing
assistance grants and replacing them with larger loans. This resulted in a slowdown in
the purchase of apartments among those persons eligible for mortgages supported by
the Ministry of Construction & Housing. Furthermore, as of January 2005, eligibility
of applicants with low scores (less than 1000 points) was cancelled due to the
significant drop in mortgage rates in Israel.
(4)
Municipal by-laws pertaining to development levies and charges – the enactment of
municipal by-laws pertaining to paving, sewer, water, drainage and other levies affects
development levies. An increase in these fees has an adverse affect on project
profitability.
23
(5)
Land Tax Rates – Following the Rabinovitz Committee, the Knesset passed
Amendment No. 50 to the Land Tax Law, which reduced the land betterment tax rate
and granted an exemption from sales tax in the sale of residential apartments. Tax rates
may have a significant impact on the scope of transactions in the economy. For
additional information on tax rates, see paragraph 1.24 hereinafter.
(6)
Planning and Construction Law-1965 (hereinafter, "Planning and Construction Law") –
this law prohibits construction without the issue of appropriate permits from the
authorities. Construction without a permit or non-compliance with the conditions of a
permit constitutes a criminal offense.
(7)
Sales Law (Apartments)-1973 (hereinafter, "Sales Law" or "Sales Law (Apartments)")
– all sales of residential apartments are subject to the provisions of this law. Pursuant to
the provisions of sales and secondary legislation, the seller must submit a specification
of the apartment to the buyer. The said law also determined the degree of deviation
permitted between the dimensions and quantities appearing on the specifications given
to the buyer, and the actual dimensions and quantities. The Sale Law also provides the
obligations that apply to the seller pertaining to the repair of faults and inconsistencies,
and defines the warranty and inspection periods during which the obligation to make
said repairs applies to the seller. Also see paragraph 1.8.1.11(b) hereinafter.
Furthermore, according to the Sales Law (Apartments)(Security of Buyers'
Investments)-1974 (hereinafter, "Sales Law Security of Investments"), the seller must
secure the buyers' funds pursuant to conditions and dates defined in this law.
C.
Changes in the volume of activity in the sector and its profitability
In the last two years, the industry has suffered from an increase in construction inputs,
due to, among other reasons, the rising prices of raw materials and the shortage of
construction workers.
In 2006, the Construction Input Index rose by 5.9%, continuing the increase of 5.9% in
2005, which followed an increase of 4.8% in 2004. Based on the Company's
experience, these changes will affect the prices of its agreements with contractors
regarding the execution of construction works.
According to Ministry of Construction and Housing publications, profitability in the
luxury apartment sector increased in view of the rising prices of apartments (which
exceeded the rise in the Construction Input Index and led to an increase in the number
of construction starts in this market). This recovery is mainly explained by demand
from foreign residents and possibly local residents, who seek investments. In contrast,
the apartment market in high-demand areas showed stabile profitability and the rising
prices was set of by an increase in the prices of construction inputs.
24
According to Ministry of Construction and Housing publications, the inventory of new
apartments for sale in Israel on average continued to drop in 2006, compared to 2005.
The scope of new construction starts in 2006 declined compared to 2005 both in the
private sector (app. 3%) and in the public sector (app. 17%). According to the
Company's estimates, this may have a long-term effect on apartment prices (it is
clarified that these estimates are forward-looking information based exclusively on
economic estimates and therefore may not be realized).
D.
Changes in customer profiles in the residential housing sector
According to Bank of Israel data, The trend characterizing 2006 that began in 2004, of
an increase in the purchase of apartments primarily in the area of luxury housing along
the coastal plain and in Jerusalem, continued in 2006. A number of factors gave rise to
the increasing demand in 2004 and 2006: the strengthening of the Euro, which boosted
the purchasing power of European investors; the low ebb in real estate prices in Israel;
indications of economic growth in Israel; and in anti-Semitism towards Jews
worldwide.
E.
Technological changes
The Company estimates that Israel’s construction industry is known for its
conservatism in adopting advanced construction technology, compared to generally
accepted practices in the western world. Consequently, production in this industry is
characterized by relatively high labor inputs. However, several advanced construction
technologies have been introduced in recent years, and a market has emerged for
leasing molds and equipment for industrialized construction methods.
The situation in which the construction industry is oriented towards greater use of labor
inputs than is customary in the more advanced countries of the world gave rise, among
other things, to the dependence of this sector initially on workers from the Palestinian
territories, and subsequently to dependence on foreign workers from overseas.
F.
Critical success factors in the residential construction industry
(1)
Land reserves in high-demand areas – the lands offered by the Israel Lands
Administration in its tender are mostly located in peripheral regions, whereas most of
the lands in high demand areas are un-zoned lands, which is to say that it will be a long
time before construction permits are issued for them. This being so, ownership of land
in high-demand areas confers a significant advantage.
(2)
Goodwill – a reputation and long-standing presence in the market confer an advantage,
especially in times of recession and uncertainty.
(3)
Economies of scale – a large, financially strong company has an advantage, primarily
in times of an extended recession in the real estate industry and a decline in the
25
availability of credit.
(4)
Financial strength – financial strength reduces the Company's dependence on banking
credit and facilitates and expedites land purchases.
(5)
Experience – many years of experience in the entrepreneurship and management of
residential construction projects constitute a highly significant success factor.
(6)
Human resources – the Company’s high professional standards (especially in
engineering and marketing) enable proper economic planning of various projects
including adaptation thereof to the changing needs of the market.
G.
Changes in the raw materials market for the residential building segment
To the best of the Company's knowledge, the rise in the price of steel and the shortage
of foreign workers has resulted in an increase in construction prices. As noted, the
Construction Input Index rose by approximately 5.9% in 2006, compared to a rise of
6% in 2005.
H.
Entry and exit barriers
To the best of the Company's knowledge, No significant formal entry and exit barriers
exist in this segment. Given the scope and quality levels at which the Group operates,
most entry barriers to entry into this area of activity are related to the initial investment
of equity capital, the availability financing by banks, and professional know-how in
planning, execution and marketing of projects.
Exiting this segment would involve the sale of the Group’s inventory of lands. The
Group’s ability to sell land is a function of location, zoning status and the state of the
market, among other factors.
I.
Structure of the competition in residential construction industry
The Company estimates that the residential construction industry in Israel is a
competitive industry with many players. The Group’s financial strength in this area,
and its reputation in real estate development and residential construction, including
accompanying services (including the use of the Savyonim brand), allow the Group to
compete successful with its competitors in the industry.
1.8.1.2
Products and Services
A.
General
(1)
The Group's products in this segment in Israel are, in most cases, residential units, and
in several cases, lots for independent construction of residential units.
(2)
Agreements pertaining to the purchase of rights in land are made in any of several
forms, pursuant to the various agreements reached with the owners, the attributes of the
transaction and the rights in the land. Each agreement form contains major details that
are similar to the majority of transactions of the same type.
26
(3)
Several transactions are effected under contingent sales agreements. In the majority of
cases, contingent sales agreements are used in the purchase of land where the
applicable City Building Plan requires modifications to allow for the construction of
residential buildings. Generally, the Group handles the rezoning process vis a vis the
planning authority. Furthermore, in certain cases, the Group takes steps to amend the
City Building Plan in order to adapt the planning to its strategy and in order to develop
the land by expanding building rights,1 rezoning and/or amendments to the building
plan, among other methods.
(4)
Agreements for the purchase of land generally include the following material
provisions (either entirety or in part):
(a)
To the extent that the land is not zoned for residential uses at the time of entering into
the agreement, the purchase of the land is contingent upon an amendment to the zoning
plan based on a new City Building Plan.
(b)
The Group pays the consideration of the sale (subject to conditions precedent, if any)
using one or more of the following methods (generally a combination of several
methods):
1. Cash transactions – the consideration is pursuant to the amount specified in the
agreement and/or based on a price setting mechanism defined in the agreement.
2. Combination transaction in kind – the consideration is construction services,
primarily relating to a number of residential units defined in the agreement (or
a number defined according to an agreed upon mechanism) on the share of the
land remaining the seller's property.2
3. Revenue transaction – the consideration is an agreed upon share of the sales
revenues received from the sale of the units in the project.
In several transactions, a mechanism is defined, pursuant to which the seller is
entitled to an additional consideration, subject to the sale of the residential units
in the project at an average per sq.m. price that exceeds a base price defined by
the parties.
(c)
In most cases, in order to secure payment of the consideration, the Group undertakes to
provide bank guarantees (guarantees in respect of the value of the consideration and/or
performance bonds and/or guarantees in a form similar to guarantees pursuant to the
1
It is hereby clarified that in some cases the Group does not utilize its buildings rights in full, whereas, in said
cases, it believes that partial utilization of building rights is more economically feasible for the Group. In some
cases, an agreement with the owner of the rights in the land provides that the unutilized portion of the building
rights will remain in the hands of the land owners.
2
In some cases, the seller may or is obligated to use the Group's marketing services to sell the units owned by the
seller, for a marketing fee to the Group in a specific amount defined as a percentage of the sales price of each
unit.
27
Sales Law Security of Investments), pursuant to the terms and dates specified in each
agreement.
(d)
The parties to the agreement jointly determine the date on which the purchased rights
and/or cautionary notes and/or mortgages are registered in favor of the buyer in the
Land Registry Bureau and/or in ILA ledgers, dependent on the type of transaction,
affirmation of mandatory payments, and the statutory state of the land.
(e)
In the cases in which the seller is entitled to residential units and/or revenues in respect
of the sale of residential units in, transaction that are contingent upon a rezoning
process, the following material terms (in entirety or in part) generally apply:
1. The Group undertakes to draft a new City Building Plan (independently and/or
jointly with stakeholders in the land) on the terms defined (including density of
units, if defined), and to meet milestones pertaining to the planning activities
that are required for rezoning. Generally, failure to meet the defined terms
leads to the expiry of the agreement.
2. Provisions are defined pertaining to the responsibility of the parties or any
thereof, to furnish indemnification letters to the local planning and building
committee regarding Committee charges resulting from claims pursuant to
section 197 of the
Planning and Building Law, stemming from the said
rezoning process.
3. The Group undertakes to meet the scheduled defined pertaining to submission
of building permit applications and/or issuance of said permits, and pertaining
to the construction of the buildings in the project. In several commitments, the
agreement provides that the land owners may cancel the agreement if no
building permit can be issued by a designated date.
4. Beyond the rights vested in the parties by law or contract, the Group has, in
several commitments, the right, in the case of a breach, to terminate the
agreement if defects in the land and/or environmental issues and/or antiquities
sites and/or burial sites are discovered and which prevent the construction and
the sellers and/or Company are unwilling to assume the costs required for the
regulation thereof.
5. In several cases, the Group undertakes to grant the land owners loans and/or
undertakes that a commercial bank will provide loans to discharge mortgages
and/or fund mandatory payments or for other purposes. In several cases, the
agreement provides that the loan will be discharged exclusively from the
consideration to which the land owners are entitled.
(f)
In several cases as noted in paragraph 5 hereinabove, the Group undertakes to finance
28
the purchase and/or the project execution using a certain method (including by defining
a "closed project" pursuant to a bank construction loan, see paragraph 1.8.1.2(a)(7)(b)
hereinafter).
(g)
Generally, in cases where the Group is a partner in the land (whether by force of a joint
purchase of the land or whether by force of purchase of a share of the rights in the
land), the Group operates within a joint transaction framework (hereinafter in this
paragraph, "Joint Transaction"), to regulate the relationship between the parties.1
(h)
As part of the terms of the Joint Transaction, the parties to the Joint Transaction
provide services based on a division defined by the parties, including the following
services (either in part or in entirety): financial management, planning and execution
management, marketing and sales management, etc. Said services are rendered for a
consideration that is defined in each agreement, generally as a certain percentage of
sales revenues, or with no consideration if an equal division of tasks is defined
between the parties. Generally, the Joint Transaction bears payments to third parties
involving the issues in respect of which said services are rendered. Generally, the
Group provides most of the services to the Joint Transaction and in respect thereof it is
generally entitled to a consideration equal to 3%-4% of the revenues from the sale of
the apartments (not including VAT).
(5)
Furthermore, the Group purchases rights in lands based on development or lease
agreements with the ILA. In several cases, the rights are purchased directly from the
ILA by tender (or allocation without tender), and in several cases, the rights are
purchased from a third party which purchased the rights from the ILA. Purchase of
rights from the ILA is generally effected through the execution of a development
agreement (hereinafter in this paragraph, "Development Agreement"). Pursuant to the
Development Agreement, the ILA places the land at the developer's disposal, and the
developer undertakes to construct the buildings on the land according to the terms and
dates defined in the Development Agreement. Pursuant to the Development Agreement,
the ILA undertakes, subject to the developer's compliance with the terms of the
Development Agreement, to lease the land to the developer pursuant to a lease
agreement (hereinafter, in this paragraph, "Lease Agreement"). The land is leased for a
period defined in the Development Agreement with the ILA, for a consideration
1
Including (1) management of the transaction through an administration and/or steering committee comprising
representatives of the parties, and in which resolutions are adopted according to a defined mechanism (generally,
by unanimous vote): (2) provisions regarding prohibitions or restrictions on the assignment and/or transfer and/or
pledging of the righting by the parties and/or granting of first right of refusal; (3) provisions regarding the parties'
liability in respect of project financing and sanctions in the event of the breach thereof, etc; (4) provisions
regarding the selection of the building contractor, see also paragraph 1.8.1.10 hereinafter. Similar provisions
(including provision relating to restrictions on transfer of holdings) apply in cases in which the Group has an
interest in joint companies (subsidiaries, related companies, etc.).
29
defined in the Development Agreement. In the event that the required milestones have
not been completed by the dates stated in the Development Agreement, the Group
generally applies to the ILA for an extension. Based on its past experience, and ILA
policy, as at the date of the Periodic Report, the Company estimates that the Group will
obtain extension in those events in which the dates stated in Development Agreements
have expired. As at the date of the Periodic Report, no Development Agreement signed
by the Group with the ILA has been cancelled under the hereinabove circumstances.
(6)
Construction of projects -
(a)
The Company or the Joint Transaction, as the case may be, executes the construction on
the land through external sub-contractors and/or its subsidiary Danya Cebus (also see
paragraph 1.8.1.10 hereinafter) and/or through contractors which are the Company's
partners in Joint Transactions. Contracting agreement for the construction of buildings
are generally turnkey agreements,1 at market terms. Contracting agreements for the
development of public areas are generally agreements based on measurements
according to Bills of Quantity.
(b)
In several cases, the Group or the Joint Transaction, as the case may be, enters into
agreements with the local authority, pursuant to which the Company or the Joint
Transaction, as the case may be, is responsible, through a contractor on its behalf, to
plan the execution and management of the infrastructure and development works on the
land and adjacent land designated for public use, and to make repairs on said works.
These agreements define an arrangement pursuant to which the cost of the development
works, which is stated in the agreement, is deducted from various payments due to the
local authority and/or the local planning and building committee regarding land
development, pursuant to the mechanism defined in the agreement. Contracting
agreements with contractors who execute these works for the Company are generally
agreements based on Bills of Quantity at market terms.
(7)
Financing the purchase of land and constructing the project –
The Group generally finances the purchase of land and/or construction of the project
primarily by bank credit. Bank credit is provided in one of the three following methods:
(a)
Financing against a pledge on the rights in the land -
(b)
Construction loans from banks Construction loans use the "closed project" method through designated bank accounts
to which all sales revenues are transferred, and from which all project expenses are
1
Agreements to execute construction works which provide a defined price that is total and finite, between the
client and the contractor. In some cases, the price provided in the agreement is the total price per sq.m. and the
method for calculating the building area, and the total price is determined after the building area is calculated at
the end of the planning stage.
30
paid. In a construction loan, the bank provides credit to finance the acquisition of the
land, the tax payments in respect of the transaction, and the construction costs. The
bank also provides the guarantees required to secure the payments and/or perform the
construction, including securities pursuant to the Sales Law Security of Investments.
The said credit is granted against a pledge on the rights in the land that were acquired,
and on the Group's other rights in the project. Furthermore, credit for the acquisition of
the land is generally conditional upon equity provided by the Company and/or the Joint
Transaction, defined as a percentage of the land cost. Utilization of the credit facilities
to finance the construction is conditional upon providing additional equity, defined as a
percentage of the estimated construction costs of the specific construction stage, and
compliance with schedule and budget goals and rate of sales of the residential units, as
defined for each construction stage. In the event of failure to meet the goals, the bank
may intervene in the management of the project, and may even assume actual
possession of the project and/or demand the immediate repayment of the loan. Total
equity required for construction loans generally ranges between 10% and 25% of total
anticipated construction costs per stage (including cost of land acquisition).
In most cases where credit is granted to the Group and a partner, the Company and the
partner are single (and not jointly) liable for the credit. Nonetheless, in most cases, the
pledge ensures that the credit applies to the entire property such that the bank may sell
the entire property even if only one of the partners fails to meet the terms of the loan.
However, in such a case, the bank may recover it loan only from the relative share of
the partner in the proceeds from the sale of the property (cross-default).
(c)
Corporate loan - credit facilities by a commercial bank, with no requirement to pledge
rights in the land
As at the date of the Periodic Report, most of the group's rights in construction and
planning projects, and a considerable share of its rights in its inventory of land, are
pledged in favor of commercial banks, to secure financing provided in relation to the
acquisition of land and/or construction of the relevant project. For additional retails on
bank credit that the Company receives, see paragraph 1.8.1.13 hereinafter.
In this context, it should be noted that the Company, in the normal course of business,
grants credit to other Group companies (including Africa Residences) in relation to this
segment, and the Company is also a guarantor (for no consideration) of crdit which said
companies receive and/or credit which third parties receive pursuant to the liabilities of
said companies.
(d)
After the sale of the residential units and/or lots and until registration of the buyer's
rights in the Land Registration Bureau are completed, the Group generally functions as
31
a "Housing Company" which administers the registration of the buyer's rights and the
actions taken (if taken) regarding said rights by the buyer, in its own books. Generally,
the registration of rights in the Land Registration Bureau in the buyer's name also
involves procedures which are not under the Group's control (see also paragraph 1.8.1.2
(f)(3) hereinafter).
B.
Additional details relating to the projects
(1)
For the purpose of this paragraph:
"completed project" – a project whose construction works have been completed,
independent, even if all residential units have not been sold.
"project in progress" – a project whose construction works have commenced but have
not been completed, whether or not the income in respect thereof has been charged to
the statement of income or not
"project in planning' –a project the construction of which the Group intends to begin in
the foreseeable future, and whose construction works have not commenced.
"land inventory" – land that the Group has designated for construction and/or for sale
in the distant future and/or the Group is unable to estimate when the land will be
rezoned for residential construction, if at all.
"contingent project" – the transaction relating to this land has not yet come into effect.
"site" – the area on which a project is constructed. It is hereby clarified that the term
'site' may refer to several projects of several types (completed projects and/or projects
in progress).
"share of holding in project" – this means the share of the Group company relative to
the other project partners (excluding the owners' share in a combination transaction).
"Residential units based on valid City Building Plan" – this means the number of
residential units contained in the project that is owned by the Group company jointly
with others.
"residential units sold" – the number of residential units sold by the Group company
and its project partners (excluding the owner's share in a combination transaction).
"additional units based on plan" – this means the additional number of residential units
(in excess of the number of residential units based on valid City Building Plan) that the
Group wishes to include in the project, based on plans that have not yet received
approval (whether plans have been submitted to the planning authorities and whether
such plans are in the preparation stage), excluding the owner's share in combination
transactions.
32
(2)
The following table lists details on the residential units contained in the Group's
projects (excluding "evacuation-construction" projects) as at December 31, 2006.1
Number of
housing
units in
project
Type of project
Group's
share (*)
Additional housing
units as planned (**)
Number of
housing
units in
Group's
project
share (*)
Total
housing
units in
project (*)
Group's
share
(*) (**)
Year
building
is expected
to start
(***)
Expected
average
number
of years of
building
(***)
Projects in progress,
charged to statement
of operations
Projects in progress,
not yet charged to
statement of
operations
429
288
12
6
441
294
in
progress
1
956
635
10
5
966
640
in
progress
2
Projects in planning
4,273
2,365
160
83
4,433
2,448
Land reserves
Contingent projects
738
324
602
300
2,107
3,917
1,799
2,935
2,755
4,241
2,401
3,235
2007
-2009
-
6
-
(*) Excluding rights of partners in joint transactions and/or rights of owners in combination transactions.
(**) The data hereinafter referring to plans that have not yet been approved constitute forward-looking
information, since the approval of said plans involves statutory procedures, among others, which are not in the
Company's control. The said data reflect only the Company's intentions and there is no certainty that the plans or
applications that have been or will be submitted by the Group will be approved (at all) either in entirety or in
part.
(***) The information set forth hereinafter is forward-looking information based on data that are at the disposal
of the Company as at the periodic report.
(3)
The following table lists details relating to the number of residential units included in
the projects in progress and in planning (excluding the rights of partners in Joint
Transactions and/or of owners in combination transactions) and the sales prices of the
residential units as at December 31, 2006:
Sales price (USD per sq. m.,
including VAT)
Number of housing units in projects in construction stage
Tel Aviv and
Sharon and
Ono Valley
Peripheries
and
Ramat Gan
Plains
Petah Tikva
Jerusalem
$1,000 - $2,000
$2,001 - $4,000
$4,001 and over
183
-
140
37
-
379
62
-
-
133
-
Total
183
177
441
-
133
Sales price (USD per sq. m.,
including VAT)
Tel Aviv and
Number of housing units in projects in planning stage
Sharon and
Ono Valley
and
1
Excluding Kfar David project, which was sold after the balance sheet date, see paragraph 1.8.1.2 (e)(1)
hereinafter.
33
Ramat Gan
Plains
Petah Tikva
Jerusalem
Peripheries
$1,000 - $2,000
$2,001 - $4,000
$4,001 and over
67
125
478
40
-
506
6
-
74
1,152
-
Total
192
518
512
74
1,152
The data in the tables in this paragraph referring to projects in process constitute
forward-looking information and are based on the information that it at the Company's
disposal as at the date of the Periodic Report.
34
(4)
Additional details relating to completed projects and projects in progress, by sites that were active in 2004-2006 as at December 31, 2006:
Including
owners'
share in
Excluding
owners'
share in
Units
sold as at
December
31, 2006
(projects in
Percentage
holding in
combination
combination
construction
or office
space
project
deals
deals
Stage only
(sq. m)
2004
2005
2006
2004
2005
50%
912
912
(160)
54
1,840
41,809
39,727
17,011
20%
100%
74
48
(48)
15
-
-
-
-
100%
322
322
(140)
111
-
21,134
26,651
50%
275
275
(24)
19
350
8,542
"Gimmel"
Hahadasha,
Tel Aviv
50%
182
182
(94)
73
1,250
"Savyon Tower,"
Ramat Gan
50%
151
151
(151)
-
-
Name of site
Holding
company
and rate
of holding
as at
December
31, 2006
"Lev
HaSavyonim,"
Petac Tikva
"Savyonei Ramat
Aviv," Tel Aviv1
1
2
Africa Residences [79.37%]
"Life Park",
Petach Tikva
(Vered Agas)
"Savyonei
Netanya," Netanya
Main
additional
commercial
Amounts
invested
as at
December
31, 2006
in NIS
Statutory
including
land)
(projects
In con-
Additional
tory
planning
Vs.
additional
struction
stage
Estimated
additional
housing
units
housing
units
Estimated
date of
2006
completion
cost of site
planned
planned
pletion
11%
12%
107,925
261,017
-
-
2016
-
-
-
23,854
19,146
-
-
2008
53,941
12%
11%
13%
91,485
139,954
5
City
building
plan in
planning–
rezoning and
additional
units
2011
562
39,209
33%
25%
14%
84,267
288,643
-
-
2013
26,550
9,873
16,321
23%-
14%
21%
62,294
75,201
44
2
2010
-
-
-
-
-
-
41,488
41,512
-
-
2008
Results of projects completed and in construction stage
Income in NIS in the
financial statements for
Gross profit margin in the
Buildings No. 7 and 8 in the Savyonei Ramat Aviv project were placed on contingent marketing, and as at December 31, 2006, 13 units were sold.
City Building Plan for additional units and decrease of commercial spaces by 900 sq.m. has been approved and documents for validation are currently being delivered.
35
Percentage
Including
owners'
share in
Excluding
owners'
share in
Units
sold as at
December
31, 2006
(projects in
holding
in
combination
combination
construction
or office
space
project
deals
deals
Stage only
(sq. m)
2004
2005
2006
2004
2005
"Savyonei
Ha-emek," Afula
50%
596
596
(16)
-
-
-
-
-
-
"Migdalei
HaSavyonim,"
Yehud
50%
277
277
(137)
37
-
-
-
8,648
50%
-
-
-
-
51,488
24,422
28.5%
-
-
-
-
9,167
100%
95
80
(25)
7
-
"Savyonei KfarSaba", Kfar Saba
50%
154
95
22
"Migdal
HaTamar,"
Ramat Gan
50%
44
29
(29)
3
Name of site
holding
as at
31.12.06
Africa Residences [79.37%]
"Savyonei
Givatayim Aleph"
Givatayim
"Kfar David Beth
and Daled,"
Jerusalem
"Ginot Savyon,"
Rehovot
Holding
company
and rate
of
Amounts
invested
as at
December
31, 2006
in NIS
Statutory
including
land)
(projects
In con-
Additional
tory
planning
Vs.
additional
struction
stage
Estimated
additional
housing
units
housing
units
Estimated
date of
2006
completion
cost of site
planned
planned
pletion
-
5%
17,512
185,060
-
-
2022
-
-
16%
37,293
71,188
-
-
2011
-
24%
21%
-
-
-
-
-
Completed
7,121
-
15%
15%
-
-
-
-
-
Completed
-
-
-
-
-
-
28,864
78,136
-
-
2010
-
-
-
-
-
-
-
23,111
60,899
9
Application
for easement
on no. of
units in
preparation
2010
-
-
-
-
-
-
-
2,001
8,999
-
-
2009
Main
additional
commercial
36
Name of site
"Savyon
Platinium"
"Savyonei Netzer,"
Ness Ziona5
"Savyonei Yam,"
Kiryat Yam
holding
as at
31.12.06
Percentage
Including
owners'
share in
Excluding
owners'
share in
Units
sold as at
December
31, 2006
(projects in
holding
in
combination
combination
construction
or office
space
project
deals
deals
Stage only
(sq. m)
Africa
Residence
s
[79.37%]
The Company2
Ramat Gan
"HaSchunah
Hahadashah
beSavyon,"3
Savyon
"Kiryat
HaSavyonim,"
Yehud
Holding
company
and rate
of
Main
additional
commercial
2004
2005
2006
2004
2005
2006
Amounts
invested
as at
December
31, 2006
in NIS
Statutory
including
land)
(projects
In con-
Additional
tory
planning
Vs.
additional
struction
stage
Estimated
additional
housing
units
housing
units
Estimated
date of
completion
cost of site
planned
planned
pletion
Appr.
1
App.
2009
50%
80
62.4
15
-
-
-
-
-
-
-
19,686
25,132
3.2
100%
1964
196
14
-
-
-
9,752
-
-
39%
102,559
178,041
-
-
2013
100%
68
68
(62)
55
-
22,784
43,929
63,128
56%
44%
48%
24,948
5,103
-
-
2009
50%
673
673
(128)
68
8,300
23,271
29,484
28,832
9%
11%
10%
65,486
209,696
-
-
2015
50%
799
799
(91)
19
3,000
11,287
19,151
5,371
22%
7%
39%
35,828
192,237
70
2022
1
Approved for deposit for additional housing units.
Also see rights of an associate company (21%), Mashtelat Savyon Ltd, paragraph 1.8.1.2(b)(6) hereinafter.
3
According to amendment to the lease agreement dated November 2006, the Company will pay ILA 15% of the price of every sale made.
4
Lots for building by buyers.
5
The Company filed an application with ILA to extend the development contract, pursuant to which the development period is scheduled to end in march 2007. To the best
knowledge of the Company, the application is being handled by ILA according to procedure. Furthermore, it should be noted regarding this project that the Company
obtained an assessment issued by ILA in the amount of NIS 70 millions in respect of amended plans approved for the project.
2
37
Name of site
"Neve Savyon,"
Or Yehuda1
1
2
Percentage
Including
owners'
share in
Excluding
owners'
share in
Units
sold as at
December
31, 2006
(projects in
holding
in
combination
combination
construction
or office
space
31.12.06
project
deals
deals
Stage only
(sq. m)
2004
2005
2006
2004
2005
2006
A.M.T.
Neve
Savyon
Ltd
[33%]
100%
-
-
-
10,000
32,529
5,712
322
14%
7%
Loss
Holding
company
and rate
of
holding
as at
Main
additional
commercial
Amounts
invested
as at
December
31, 2006
in NIS
Statutory
including
land)
(projects
In con-
Additional
tory
planning
Vs.
additional
struction
stage
Estimated
additional
housing
units
housing
units
Estimated
date of
completion
cost of site
planned
planned
pletion
-
-
-
Completed
2
-
The Group's rights in these properties are rights pursuant to ILA resolutions.
Not including commercial areas.
38
(5)
Additional details relating to completed projects and projects in progress, by sites that were active in 2004-2006 as at December 31, 2006:
Status
(planning/
reserve/
conditional
project
Holding
company
and
interest as
at
December
31, 2006
No. of units according to
valid City Building Plan
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
The
Company
100%
-
-
-
-
App.300
Cannot be
estimated
3
2010
Plots at the
entrance to Savyon
The
Company
100%
5
5
-
195
App.100
Cannot be
estimated
4
2010
Farm land, Savyon
The
Company
100%
-
-
-
-
-
Cannot be
estimated
Farm
land
Cannot be
estimated
50%
88
88
1,482
sq. m.
commercial
11,430
32
30,500
5
2010
Name of site
"Retsuat HaKnisah", Savyon
"Life Park", Petach
Tikvah (Sharona)
Land
reserves12
Planning
stage
Africa
Residences
[79.37%]
Interest
in
Statutory
planning
status
Estimated
date of
completion
1
A lease agreement (uncapitalized) exists regarding these real estate assets. The Company notified ILA on the exercise of its right to a second lease period in respect of these
real estate assets.
2
Furthermore, the Company has taken steps over the last several years to convert the unutilized balance of rights for commercial areas in the center of Savyon into 27 lots
(for the construction of one housing unit on each lot).
3
A plan rezoning the land for residential and commercial uses as part of an Unzoned Land Center in planning.
4
A plan rezoning the land for a senior citizens' village is in planning.
5
Deposit of City Building Plan to complete validation, under the authority of the local committee, to convert all commercial areas to residential areas (an addition of 32
units). Objections filed regarding the Plan were discussed and a decision was made to approve the Plan under certain conditions.
39
Status
(planning/
reserve/
conditional
project
Holding
company
and
interest as
at
December
31, 2006
Name of site
"Sha'ar Hayyam,"
Rishon leZion
"Savyonei Atlit
HaHadashah", Atlit
"Hatzar HeNevi'im",
Jerusalem
"Kfar David Stage 3",
Jerusalem2
Planning
stage
Planning
stage
Planning
stage
Planning
stage
Africa
Residences
[79.37%]
Africa
Residences
[79.37%]
Africa
Residences
[79.37%]
Africa
Residences
[79.37%]
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
50%
640
463
-
2,726
-
221,274
-
2014
215
2,057
sq. m.
commercial
3,943
-
141,057
-
2014
148
650 sq.m.in
building for
historical
preservation
56,782
-
76,218
1
2010
Not
Not
Not
relevant
relevant
relevant
Interest
in
100%
50%
52.5%
215
148
78
78
-
33,262
-
Estimated
date of
site in NIS
Statutory
planning
status
completion
1
City Building Plan for the conversion of commercial, office, swimming pool and sport areas to residential areas, including additional height. The Company intends to
realize, as far as possible, the permitted building rights regarding all main building areas, but with a number of residential units that is smaller than the permitted amount.
2
This project was sold after the balance sheet date, see paragraph 1.8.1.2(e)(1) hereinafter.
40
Name of site
"Savyonei Hanassi," 1
Jerusalem
"Hod HaCarmel HaZfoni,"
Haifa
Status
(planning/
reserve/
conditional
project
Land
reserve
Land reserve
Holding
company
and
interest as
at
December
31, 2006
Africa
Residences
[79.37%]
Africa
Residences
[79.37%]
Interest
in
project
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
3,700 sq.m.
hotel site
100%
20
20
2
approx
. 215 3
176
360 sq.m.
commercial
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
68,830
78
118,070
18,801
455
122,560
Statutory
planning
status
City Building
Plan for
additional no. of
units is in
planning
(4)
Estimated
date of
completion
2008
2008 (Stage
A)
(2010
Stage B)
1
Up to September 2006, Africa Residences held 50% of the rights in the project. On the said date, an agreement was completed, pursuant to which Africa Residences and the
partner cancelled the transaction (dated 1991) in which the partner purchased his share in the project. As part of the cancellation of the said transaction, Africa Residences
paid NIS 51.7 millions. Africa Residences filed a complaint against ILA for declarative relief and an injunction, in which the Court was requested to enforce an agreement
pursuant to which Africa Residences would pay permit fees in respect of the rezoning and utilization of the land, without being charged agreement fees and capitalization
fees.
2
Africa Residences is the registered owner of an indefinite 82% of the rights in the land. Leasing rights in favor of a subsidiary (100%) of Africa Residences and/or Haifa
Municipality are registered on a part of the rights of Africa Residences. In 1978-1979, Africa Residences sold to third parties 5 lots of these lands, and which have not yet
been registered in the names of the buyers. A compromise agreement dated 1994 between the Company and other owners of the land defines a mechanism to calculate the
number of units receivable by the parties in these lands, and in adjacent lands, pursuant to a number of units that will be approved in a plan that has been drafted regarding the
land. If 626 units are approved, according to the defined mechanism, Africa Residences will be entitled to 455 units. If a plan including a different number of units is
approved, the number of units to which Africa Residences will be entitled will change.
3
A plan exists under the City Building Plan, pursuant to which no building permits may be issued regarding three lots with building rights of 7,350 sq.m. (91 units out of 215
units) until the transfer of parcel 5a (app. 100 dunams) in the name of Haifa Municipality. In practice, this condition cannot be satisfied in entirety due to plans and
construction performed on plot 5a. To the Company's best knowledge, Africa Residences intends to settle this matter with the municipality as part of procedures to approve
the new plan that the company submitted. Africa Residences disputes the municipality's position in the matter of the validity of the condition and its implications.
4
A plan for an additional 145 units was approved (validation has not yet been completed). The plan for an additional 481 units, under the authority of the regional committee,
was submitted to the local committee.
41
Name of site
"Giv'at Savyon
HaHadashah"
- Stage 2", Ganei Tikvah1
Status
(planning/
reserve/
conditional
project
Contingent
project
Holding
company
and
interest as
at
December
31, 2006
Africa
Residences
[79.37%]
"Ganei Savyon",
Ganei Tikvah3
Land
Reserve
Contingent
project
Africa
Residences
[79.37%]
"Bialik al HaPark",
Kiryat Bialik
Land
Reserve
Contingent
project
Africa
Residences
[79.37%]
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
50%
50%
-
-
-
8,660
-
53
93
144,340
(2)
Cannot be
estimated
100%
-
-
-
30,215
186
286,371
(4)
Cannot be
estimated
100%
-
-
-
2,414
126
100%
-
-
-
927
500
278,073
(5)
Cannot be
estimated
-
App. 250
132,000
Interest
in
Estimated
date of
site in NIS
Statutory
planning
status
completion
1
Africa Residences granted a loan to a partner, by effecting payments to the local council in respect of the partner's charges, against the following, among other things: (a) an
option to purchase the partner's share in the project, between June and September 2007, for a price that has been determined for the partner's share; (b) registration of a
second mortgage on the part of the lands in the project that was purchased in cash; (c) Lien on the partner's share in the combination transaction (the contingent project(; (d)
assignment of rights by a lien on the balance of funds accumulated in favor of the partner in the Netzer Sireni project (in which the parties are also parties) after repayment of
bank credit.
2
The complex is designated for urban leisure [urban leisure means a regional part in which rezoning of the land in the project is conditional upon approval of a
comprehensive plan for the park, and is subject to additional restrictions regarding the scope of the possible change in zoning and the location thereof]. The joint transaction
has initiated an amendment to the regional outline plan, and this will be followed by a new City Building Plan for 304 units.
3
To the Company's best knowledge, in a procedure to which Africa Residences was not a party, a compromise settlement was approved in 1997 ("compromise settlement"),
following which a caveat was registered on the land and adjacent land regarding "development of a plan as defined in the compromise settlement." As aprt of agreements
between Africa Residences and the Ganei Tikva local council, the council undertook to delete the caveat regarding the land to which the agreements will apply. As at the date
of the Periodic Report, the caveat has not yet been deleted, and the Company estimates that it will be deleted after approval of a new plan that Africa Residences is
developing for the land.
4
Agricultural land. City Building Plan rezoning the land for 400 residential units has been recommended by the local council (pending discussion by the local committee).
5
Agricultural land, City Building Plan is in preparation to rezone the land for residential uses.
42
Status
(planning/
reserve/
conditional
project
Holding
company
and
interest as
at
December
31, 2006
"Ramat Marpeh," Ramat
Gan
Land
reserve
"Savyonei HaSharon",
Ramat Hasharon
Name of site
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
Africa
Residences
[79.37%]
App.
67%
-
-
-
14,616
140
77,384
(1)
Cannot be
estimated
Land
reserve
Africa
Residences
[79.37%]
100%
22
22
-
4,107
-
Not
relevant
--
Held
for sale
Land
reserve
Africa
Residences
[79.37%]
100%
200
200
-
5,944
-
199,056
(3)
Cannot be
estimated
Not
(5)
Designated
Land
reserve
Africa
Residences
[79.37%]
"Shfayah", Zikhron Yaakov2
"Modi'in - Stage 3 Modi'in4
Interest
in
50%
44
44
-
-
20
Estimated
date of
site in NIS
Statutory
planning
status
completion
relevant
for sale
1
The land is designated for a special building. A City Building Plan for residential uses has been recommended by the local committee (pending discussion by the regional
committee)
2
The number of units represents the Group's position in its dispute with the planning authorities, as set forth hereinafter.
3
The local committee and the regional committee claim that the land is agricultural. The Group claims that the Mandatory City Building Plan zones part of the land for
residential uses. An outline plan has been submitted to the Haifa Region, presenting this land as un-zoned land. The Company filed an objection. An application for a building
permit, filed by Africa Residences, was rejected; Africa Residences intends to appeal this decision.
4
The Company estimates that after the plan is validated and the required payment is made in respect of valuation differences, deadlines that have elapsed will be extended for
the development, pursuant to the development agreement with ILA. As at the date of the Periodic Report, Aspen and the Company are taking steps to bring the plan to the
validation stage and to extend the deadlines for completing their obligations toward the Ministry of Construction and Housing and ILA.
5
An amended City Building Plan regarding additional units was transferred to the regional committee for publication and validation.
43
Name of site
"Hod HaCarmel Ma'arav",
Status
(planning/
reserve/
conditional
project
Land
(various plots), Haifa 1
reserve
":Shuk Ashkenaz", Yehud 2
Land
reserve
"Savyonei HaGiv'ah",
Giv'at Shmuel4
Yokneam (various plots)5
Holding
company
and
interest as
at
December
31, 2006
Africa
Residences
[79.37%]
Africa
Residences
[79.37%]
Land
reserve
Africa
Residences
[79.37%]
Land
reserve
Africa
Residences
[79.37%]
Interest
in
project
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
Not
100%
8
8
50%
168
168
1,600 sq.m.
Main areas
commercial
+ 640 sq.m.
commercial
gallery
876
-
relevant
3,182
16
57,818
Statutory
planning
status
Land for
residential uses /
nature reserve /
private unbuilt
land.
An application
for an easement
in respect of 16
units is in
preparation
(3 )
67%
3
3
-
11,288
387
173,712
100%
-
-
-
-
-
Not
relevant
Estimated
date of
completion
Designated
for sale
Cannot be
estimated
Cannot be
estimated
Agricultural
land
Not
relevant
1
In 1964, Africa residences (prior to its acquisition by the Company) entered into an agreement with the municipality of Haifa, pursuant to which Africa Residences
undertook to perform certain development works regarding the land include in the said complex and on adjacent land, some of which are included in the Hod HaCarmel Zfoni
complex (see this table hereinabove). Following legal proceedings relating to disputes that arose between the parties, the parties turned to arbitration. The last arbitration
hearing took place in 1992. The Company does not estimate that it will be subject to a material risk in respect of these proceedings.
2
This project is contingent on the evacuation of the owners of rights in adjacent lands, see paragraph 1.8.1.2(d)(1) hereinafter. The development stage is scheduled to be
completed by November 2007.
3
A City Building Plan for 504 units was rejected by the local committee. A City Building Plan for 390 units is in preparation.
4
This agreement is conditional upon approval by ILA for the transfer of the seller's rights to the buyer no later than December 31, 2006, or any subsequent date agreed by the
parties. In August 2006, ILA issued a notice, in effect until September 2006, pursuant to which ILA is willing to transfer the rights in the land on the condition that the
appropriate documents and approvals are furnished, as set forth in the notice. In a letter dated March 4, 2007, ILA confirmed that it would approve the transfer of rights upon
receiving the tax approvals pursuant to the letter dated August 2006.
5
The lands are held by a wholly owned subsidiary of Africa Residences.
44
Name of site
"Carmeliyah", Haifa1
Status
(planning/
reserve/
conditional
project
Land
reserve
"Savyonei Ganim",
Ramat Gan 2
"Savyonei Hod HaSharon",
Land
Reserve
Contingent
project
Hod Hasharon
Holding
company
and
interest as
at
December
31, 2006
Interest
in
project
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
Africa
Residences
[79.37%]
100%
-
-
-
-
-
relevant
Africa
Residences
[79.37%]
50%
231
183
-
6,714
15
18,286
Africa
Residences
[79.37%]
Not
Statutory
planning
status
According to
valid City
Building
Plan – nature
reserve
(3)
Estimated
date of
completion
Not
relevant
Cannot be
estimated
(4)
100%
200
-
3,155
App. 164
128,845
2008
(5)
Savyonei Givatayim -
Contingent
project
Africa
Residences
Cannot be
1
According to the claims of third parties and/or the representatives of the parties who sold the real estate to Africa Residences, Africa Residences did not pay the
consideration in respect of the land. Africa Israel disputes the seller's position. As at the date of the Periodic Report, the seller's rights and/or Africa Residences' rights in the
land have not been registered, and no caveat has been registered in favor of either party. The Company does not anticipate to be subject to a material risk even if Africa
Residences' arguments are rejected.
2
This project is conditional upon the evacuation of owners of rights in adjacent land, see paragraph 1.8.1.2(d)(1) hereinafter. The development period pursuant to the
development agreement ended on January 1, 2006. Africa residences and its partner in the project appealed to ILA and requested to extend the development period. In lieu of
an extension of the development period, ILA issued a lease contract to be signed by the partner.
3
A City Building Plan for consolidation and merger was approved for deposit. Following the discovery of a drainage/sewage line, an agreement was reached with the Ramat Gan municipality
to submit an amended plan..
4
Outline plan in effect for residential uses. City Building Plan for division of all building rights among the owners is under discussion, after no appeals have been filed.
5
City Building Plan for commercial and sports uses. City Plan for residential units was approved subject to modifications, and is under the authority of the regional
committee, which has not yet validated the plan.
45
Stage 2", Givatayim1
Name of site
"Shvil HaTapuzim",
Hod Hasharon4
Hod HaSharon (Kfar Malal) 6
Holding
company
and
interest as
at
December
31, 2006
Africa Residences
[79.37%]
2
Status
(planning/
reserve/
conditional
project
Contingent project
"Kfar Hadar" Hod HaSharon
[79.37%]
50%
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
-
-
App. 140
88,000
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
-
App. 250
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
100%
-
-
-
Interest
in
estimated
Estimated
date of
site in NIS
Statutory
planning
status
completion
190,000
(3)
Cannot be
estimated
100%
-
-
-
-
App. 110
155,000
(5)
Cannot be
estimated
100%
-
-
-
-
App. 900
903,000
( 7)
Cannot be
estimated
1
The last date for meeting the conditions precedent for the project passed on December 31, 2006. Africa residence's position is that since on December 31, 2006, the rezoning
plan was already deposited, therefore the date for meeting the conditions precedent was extended by another year, until December 31, 2007. The parties disagree on this
matter and they are conducting negotiations to carry out the transaction.
2
Deadlines for completion of plans, as defined in the sales agreements as conditions precedent, have elapsed. The Group however continues to take steps to promote planning
procedures jointly with the sellers.
3
Agricultural land. A new City Building Plan for residential uses has been submitted concurrently to the local and regional committees. The local committee did not
recommend the plan and, to the best of the Company's knowledge, was rejected by the regional committee. Africa Residences intends to take steps to cancel the decision.
4
Deadlines for completion of plans, as defined in the sales agreements as conditions precedent, have elapsed. The Group however continues to take steps to promote planning
procedures and update the sellers.
5
Agricultural land. A new City Building Plan for residential uses has been submitted concurrently to the local and regional committees.
6
An agreement was drafted with representatives of the owners of the leasing rights ("the lessees"). To the best of the Company's knowledge, the representatives are not
authorized to bind the lessees or sign on their behalf. The agreement was contingent upon the signature of lessees who hold at least 75% of the rights in the land by no later
than 120 days from the date of the signing of the agreement. According to a summary of a meeting on April 7, 2005, the said deadline was extended to December 31, 2005.
The Company and the representatives have an oral understanding pursuant to which the said deadline will be extended to December 31, 2007. However, as at the date of the
Periodic Report, no document has been signed to that effect.
7
Agricultural land. Plan for 1500 units is in preparation, based on the assumption that all owners of rights in the land will join.
46
Holding
company
and
interest as
at
December
31, 2006
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
deals
deals
100%
-
-
-
-
App. 134
166,000
( 2)
Cannot be
estimated
100%
-
-
-
-
App. 152
54,000
( 3)
Cannot be
estimated
50%
-
-
-
-
App. 500
359,000
( 4)
Cannot be
estimated
"Kfar Saba\80", Kfar Saba5
100%
109
90
-
-
-
76,000
"Tabenkin", Haifa 6
100%
72
52
-
337
-
In view of the
proceeding, the
Company is
unable to estimate
these costs
Name of site
"Savyonei Rishonim",
Rishon leZion
Contingent project
"Beth Mapai", Jerusalem 1
Africa Residences
[79.37%]
project
Additional
main
commercial
or office
space
(sq.m.)
Status
(planning/
reserve/
conditional
project
Interest
in
Estimated
date of
site in NIS
Statutory
planning
status
completion
Cannot be
estimated
City Building
Plan for
residential uses
Cannot be
estimated
1
The sellers informed Africa Residences on the termination of this contract. Africa Residences' position is that the agreement is in effect and cannot be terminated by notice
of one party. In March 2007, Africa Residences filed an opening motion against the sellers, in which it requested declarative relief that the agreement between the parties is in
effect and binding, and that the deadline for the fulfillment of the condition precedent in the agreement (September 2007) has not elapsed, and also requested enforcement
relief. Furthermore, a motion for temporary relief was filed, in which a request was made to register a note in the books of the Land Registry regarding the existence of the
proceeding.
2
According to the provision of Plan 2596a which applies to the land, if a building permit is not issued by May 2004, the plan will no longer be valid. Due to a dispute
between the sellers and Africa Residences, Africa Residences is unable to estimate whether the effect of said plan has expired.
3
The complex is zoned for urban leisure. The municipality submitted plans to amend the regional outline plan, and subject to the approval of the amended plan, the Company
will file new plans for residential units.
4
A City Building Plan zoning the land for residential uses has been approved. A decision has not yet been issued in respect of a central waste disposal system.
5
The parties to the agreement have a right to terminate the agreement, under defined circumstances, if a central waste disposal system will be required according to the said
City Building Plan.
6
The parties are negotiating directly, after failure of a mediation proceeding to which the parties were referred by the Supreme Court. In view of the uncertainty surrounding
the said legal proceedings, this transaction is presented as a contingent transaction.
47
Name of site
Africa Residences
[79.37%]
"Gimzu" Gimzu area2
Contingent project
"Drom Maccabit",
Petach Tikvah 1
Status
(planning/
reserve/
conditional
project
Holding
company
and
interest as
at
December
31, 2006
"Had-Ness", Ramat Gan
"Pardess Greenblatt",
Ness Ziona3
The
Company
Interest
in
project
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
In view of the status
of the City Building
Plan, the Company is
unable to estimate
these costs.
Complex is zoned
for urban leisure
Cannot be
estimated
Cannot be
estimated
Statutory
planning
status
50%
-
-
-
-
-
100%
-
-
-
-
-
In view of the status
of the City Building
Plan, the Company is
unable to estimate
these costs.
Agricultural land and
nature reserve
50%
48
48
-
-
App. 220
73,000
New City Plan
was
recommended for
deposit and is in
condition
completion stage
50%
-
-
-
255
-
-
Declared as an
urban leisure
zone. The
municipality's
appeal with the
national council
was rejected.
Estimated
date of
completion
Cannot be
estimated
Not
relevant
1
It should be clarified that there is no certainty that a real estate project can be constructed on this land.
The agreement concerning this land provides that the parties' commitment is based on and relies on resolution 727 of the ILA, as in effect at the signing of the agreement.
This resolution was cancelled in August 2002 in a Supreme Court ruling, and in general, private developments on this land cannot be executed. It should be clarified that
there is not certainty that a real estate project can be executed on the land. Representatives of the land owners notified Africa Residence of the termination of the agreement.
Africa Residences rejected the notice of termination and objected to the transfer of the deposit that had been deposited in trust by the owners. As at the date of the Periodic
Report, the parties are communicating in an attempt to resolve their conflict.
3
The deadlines for completing planning, as set forth in the sales agreement as a condition precedent, elapsed in 1999. The Company decided to take steps to terminate the
agreement.
2
48
Name of site
"Glil Yam", Herzlia 1
Status
(planning/
reserve/
conditional
project
Contingent
project
Holding
company
and
interest as
at
December
31, 2006
Renanot
Development
and
Investments
Ltrd [50%]
Including
Excluding
owners'
owners'
share in
share in
comcombination
bination
project
deals
deals
Additional
main
commercial
or office
space
(sq.m.)
100%
-
-
-
Interest
in
Carrying
value
of land as
at
December
31, 2006
Further
housing
units
Estimated
further
cost of the
planned
site in NIS
13,512
App. 610
279,000
7,877
"Armon HaHegemon,"
Nazereth
Land
reserves
Armon
Hahagmon Ltd.
(Kasar ElMotoran) Ltd.
[50%]
100%
-
-
2
35,100
(housing
only)
App. 311
25,000
Statutory
planning
status
The Outline Plan
was approved for
calidation. The
detailed plan in in
final coordination
stages and will
shortly be
deposited for
validation.
Cuty
Building
Plan
was
approved
for
validation which
is expected to be
obtained in the
next
several
weeks. The City
Plan in Nazareth
Elite
for
an
additional
72
units was rejected
by
the
local
committee.
Estimated
date of
completion
Cannot be
estimated
Cannot be
estimated
1
The deadlines for completing planning, as set forth in the sales agreement as a condition precedent, elapsed, but the Group continues to take steps to promote planning
procedures, in coordination with the land owners.
2
Including areas transferred to a subsidiary (67%), see paragraph 1.9.1.2(h) hereinafter.
49
(6)
Details relating to the Group's investments in subsidiaries engaged in real estate development in Israel:
Total
investment in
the consolidated
financial statements
of the Company as at
December 31, 2006
(NIS thousands)
Description of
Percentage
holding as at
Investment in
equity
Shareholders'
loans
Company's
share in
accumulated
Earnings / (losses)
Name of investee
the property
December 31, 2006
(NIS thousands)
(NIS thousands)
(NIS thousands)
Afriram Ltd.
Land designated
for housing in the
Sumail quarter of
Tel Aviv (20
Housing units and
1,500 sq.m.
commercial site, as at
the Company's
periodic report)
40%
-
22,185
(10,282)
11,903
Mashtelot Savyon Ltd.
65 plots in the new
housing area
of Savyon 1 2
21%
811
507
-
1,318
1
A capitalized lease agreement for the second lease period (beginning in June 2002) has not yet been signed in respect of the said lots. Furthermore, it should be noted that to
the best of the Company's knowledge, there is a dispute between the Company and ILA regarding the required capitalization fee.
2
In addition, Mashtelot Savyon Ltd owns an area adjacent to the boundary of the plan concerning the said lots, which Mashtelot Savyon Ltd wishes to rezone for residential
uses. Preparation of the appropriate City Building Plan has not yet begun. Notably, a lease agreement for the second lease period (beginning in June 2002) has not yet been
signed in respect of these additional lands either.
50
To remove all doubt it is hereby clarified that the information in the tables in
paragraphs (4) and (5) hereinabove, referring to the construction of projects the
construction of which has not yet commenced, additional residential units based on
plans, plans that have not yet been approved, additional estimated project costs, and the
scheduled completion dates, constitute forward-looking statements. The data in the
tables are based on the following assumptions, among others: (1) the Group will decide
to utilize the inventory of lands or the contingent conditions to complete the transaction
relating to a contingent project, as the case may be; (2) pursuant to the Group's
expectations, all additional owners in the property will join the planned projects; (3) the
plans and/or applications that have been and/or will be submitted by the Group will be
approved and come into effect, without any substantial change to the number of
residential units permitted for construction on the land, the mix of residential unit
[types] and/or the plan of the residential units, relative to the number, mix and plan that
the Group expects; (4) no substantial changes will occur in fees, levies and/or taxes that
apply to the parties in the land transactions; (5) construction costs and the remaining
sales costs will be consistent with the Group's estimates. It is clarified that if a
substantial change occurs in one or more of the hereinabove factors, a substantial
change may occur in the number of units and/or costs or schedules that the Group
expects.
C.
Additional Commitments -
(1)
Commitments in the matter of land in the vicinity of Savyon Junction In 1992, Africa Residences entered into agreements with a group of individuals holding
leasing rights from the ILA, constituting 70% of all leasehold owners in a 770-dunam
tract of land in the vicinity of Savyon Junction (hereinafter, "the lessees"). Pursuant to
said agreement, Africa Residences undertook, among other things, to take steps top
obtain an approval for rezoning the land for residential uses. As consideration, Africa
Residences is entitled to the right to enter into negotiations for a combination
transaction; or is entitled to a first right of refusal pertaining to agreements with any
other contractor or developer at a discounted price, based on a defined mechanism; or
entitled to the right to receive a share in the lessees' actual rights. The dates defined for
the planning stages pursuant to the agreements have elapsed. A dispute exists between
the ILA and the lessees regarding the lessees' rights in the land. To the best of the
Company's knowledge, the lessees have initiated legal actions against the ILA. A
dispute exists between the lessees and Africa Residences concerning the validity of the
agreements between the parties.
(2)
Commitment with Shuval Eyal Israel Ltd –
51
To the Company's best knowledge, in 1998, a company of the name of Shuval Eyal
Israel Ltd. (hereinafter, "Shuval Eyal") was awarded an ILA tender for the permission
to plan and an option to purchase rights pursuant to an ILA development agreement in a
tract of land that constitutes 20% of the value of land of an area of 685 dunam in the
Ganei Yehuda vicinity (hereinafter, "the Land") after approval of a new City Building
Plan for the Land, for a consideration of NIS 189 million (linked to July 1997 prices).
In exchange for the option, Shuval Eyal paid a total (nominal) amount of NIS 19.5
million. Between 1998 and 2004, Africa Residences granted loans to Shuval Eyal
(loans secured by personal guarantees and by one half of the holdings in Shuval Eyal)
linked to the CPI and bearing annual interest at a rate of 5%. The balance of these loans
as at December 31, 2006 was NIS 20 million. In addition to loan agreements, several
agreements were signed by Africa Residences and Shuval Eyal in March 1998,
pursuant to which Africa Residences proposed to Shuval Eyal to conduct a joint
transaction in the land, according to which, among other things, Africa Residences
would purchase one half of Shuval Eyal's rights in the land, at terms that were defined.
To the best of the Company's knowledge, the dates defined in the tender for permission
to plan and subsequent options have elapsed, and Shuval Eyal is negotiating with the
ILA regarding the extension thereof.
D.
Evacuation-Construction Projects (Urban Renewal) –
Africa Residences entered into agreements with various developers to promote
evacuation-construction type projects. In the framework of these agreements, Africa
Residences is taking steps, through the said developers, to create a contractual
framework with the residences of various complexes in which Africa Residences is
active, pursuant to which the residents will vacate their old apartments, receive
financing to rent an apartment during the evacuation period, and subsequently receive a
new apartment in the project that will be constructed. The execution of these projects is
contingent, among other things, on approval of a new City Building Plan (to the extent
that the City Building Plan in effect does not permit the execution of the project);
consent to vacate the land by all residents and actual evacuation; application of a tax
arrangement that ensures that the substitution of existing apartments with alternate
apartments will be exempt of betterment tax and VAT; an exemption from all payments
to the ILA, etc. Generally, in consideration for the actions, and subject to the contingent
conditions of the project, the developers are entitled to an amount equal to a share in
the actual revenues received from the sale of all or a part of the residential; units in the
project which are not alternate apartments for vacating residents. As at the date of the
Periodic Report, Africa Israel is party to several agreements with developers and/or
52
several joint transactions pertaining to evacuation-construction projects, and it is also
independently active in several projects of this type, as set forth in the following table:
Location of the project
"Savyonei Ganim",
Ramat
Gan, see item 1.8.1.2(b)5
in table hereinabove
"Shuk Ashkenazi", Yehud,
see item 2.1.8.1.(b)5 in
table hereinabove
Share of
Africa
Residences in
the project
Number of
Number of
housing units
which Africa
Residences
wishes to
housing units
to be vacated
include in the
project 1 2
50%
App. 48
App. 173
50%
App. 168
App. 300
App. 209
Statutory planning status3
City Building Plan for 231 units is in
effect. City Building Plan for
consolidation and merger, according
to which 173.4 units are allocated to
vacating tenants, has been approved
for deposit by the local committee.
City Building Plan for residential
and commercial uses in effect.
Application for easement for an
additional 16 units is in preparation.
Maoz Aviv, Tel Aviv
Lavi, Givatayim
100%
100%
3 housing
units and
app. 50
business units
App. 96
App. 70
Rehov Weitzmann,
Yehud
Rehov Yosephsberg,
Petah Tikva
100%
App. 76
App. 329
100%
App. 90
App. 360
Ramat Amidar, Ramat
Gan
50%
App. 160
App. 888
Rehov HaShikma,
Ramat Gan
33%
App. 140
App. 700
Kiryat Ono
50%
App. 216
App. 720
Plan is in preparation stage.
Rehov Einstein, Tel Aviv
50%
App. 294
App. 1,026
"Yad LaBanim", Petah
Tikva
"Had-Ness- HaSar
Moshe," Ramat Gan, see
item 2.1.8.1.(b)5 in table
hereinabove
100%
App. 324
App. 1,400
Plan is in regional committee
discussions, before deposit.
50%
App. 60
App. 220
City Building Plan was
recommended by the local
committee and transferred to the
regional committee
City Building Plan was
recommended by the local
committee and transferred to the
regional committee.
City Building Plan for 448 units is in
effect. City Building Plan for
evacuation and construction under
local authority was recommended.
IN Phase B, a City Building Plan for
an additional 440 units will be
planned.
City Building Plan recommended by
local committee
Deposit was approved under certain
conditions.
1
The share of the Joint Transaction and/or Africa Residences' share, as the case may be, includes units
that Africa Residences and/or the Joint Transaction will allocate to evacuees.
2
The data referring to plans that have not yet been approved are forward-looking information, because
approval of said plans involves, among other things, statutory proceedings that are not in the Group's
control. The said data reflect the Group's intentions only, and there is not certainty that the plans will be
submitted and/or if submitted by the Group, approved (if at all), either in entirety and/or in part.
3
The data referring to plans that have not yet been approved are forward-looking information, because
approval of said plans involves, among other things, statutory proceedings that are not in the Group's
control. The said data reflect the Group's intentions only, and there is not certainty that the plans will be
submitted and/or if submitted by the Group, approved (if at all), either in entirety and/or in part.
53
The information referring to the hereinabove projects is forward-looking information,
since as at the date of the Periodic Report, the contingent conditions for any of the
hereinabove transactions have not yet coalesced, and there is no certainty that any of
the transactions will coalesce. The said information is based on the intentions of Africa
Residences but it involves completion of statutory procedures that are not under its
control and/or involve obtaining consent from a large number of third parties ('the
evacuees") and compliance with the liabilities that the evacuees assume. Therefore,
there is no certainty that all and/or any of said projects will be executed.
(2)
The Group's costs pertaining to evacuation-construction projects (excluding costs of the
purchase of land in Savyonei Ganim Ramat Gan and Shuk Ashkenazi Yehud)
amounted to immaterial amounts (if any) in the years 2004 until 2006.
E.
Additional details pertaining to land sold by Africa Residences –
(1)
The following table presents details pertaining to land sold by Africa Residences after
January 1, 2004:
The transaction
The property
Parcel 10, Haifa
Yokneam - plots
A plot in Danya
"Kfar David",
Mamilla, Jerusalem
(2)
The balance of the
Company's rights (after
previous sale) in the
property known as part
of Parcel 10, Block
11203, Haifa
Rights of a subsidiary
(100%) of Africa
Residences in property,
8.6 dunam in Yokneam
A lot in the
neighborhood of Danya,
Haifa
Rights of Africa
Residences in real estate
known as Parcels 4, 5
and 6, Block 30820,
Jerusalem
Date
sale
of
Consideration
(NIS thousands)
Profit
(NIS
thousands)
October
2005
14,746
13,561
March
2006
3,656
3,049
December
2006
1,024
775
88,000
46,0001
February
2007
In 1997, Africa Residences and a wholly-owned subsidiary (hereinafter in this
paragraph, "the Sellers") entered into agreements with a third party (hereinafter, in this
paragraph, "the Buyer"), according to which the Buyer purchased from the Sellers
rights in land for a consideration of a designated share of the sales revenues, and in any
1
The transaction has not yet been completed. Anticipated profit constitutes forward-looking information
and is conditional upon the completion of the transaction.
54
case no less than a defined amount. In 2005, due to the Buyer's breach of obligations,
the parties entered into an amended agreement in which the balance of the secured
consideration and the dates for payment were redefined. The balance of the secured
consideration pursuant to the amended agreement is, at the date of the Periodic Report,
NIS 50.8 million.
F.
Provisions for finishing, inspection, warranty and registration in the Land
Registration Bureau -
(1)
The Group's provisions for finishing, inspection, warranty and registration in the Land
Registration Bureau as at December 31 in the years 2004 through 2006 were
insubstantial amounts.
(2)
It should be noted that after payment of the final bills of the contractor and consultants,
the Company generally does not tend to record provisions for inspection, warranty and
registration, since the liability for inspection applies to the contractors, and in any case,
the relevant amounts are not material for the Group. For details on the liability of
subsidiary Danya Cebus as a contractor, see paragraph 1.10.5.3(k) hereinafter.
(3)
In the framework of the sales agreements between the Group companies to buyers of
residential units, and in the framework of several of the agreements pursuant to which
the Group companies acquire rights in real estate (including agreement with private
entities, the ILA and/or the Ministry of Housing and Construction), the Group
companies undertake to register the residential units as a condominium (if at all
necessary for registration purposes) and register the residential units in the buyers'
names. As at the date of the Periodic Report, residential units specified in the table
hereinafter have not been registered in the buyers' names, since usually, registration of
rights also involves procedures that are not in the Group's control, including
parcelation. The majority of the agreements with buyers provide that the responsibility
to register a condominium and to register the residential units in the buyers' names is
conditional upon completion of the parcelation process. In its financial statements, the
Company made provisions in amounts which it believes are sufficient to cover any
costs required to perform said registration procedures. Following are details on the
registration status of the residential units that were sold, as at the date of the Periodic
Report (including the share of the partners in joint transactions, and including the share
of owners in combination transactions in kind, but excluding residential units the
registration of which is the responsibility of the other partner in joint transactions):
55
Total number of housing units
being processed
Status
Housing units in process of
being registered
Housing units completed
but not yet parcelated
Housing units under
construction
1.8.1.3.
Housing units registered
by buyers
Not yet
Registered in
registered in
name of
name of
buyers
buyers
Housing units
to which
Condominium
Orders apply
6,594
1,372
5,582
2,262
476
-
476
-
3,102
-
3,102
-
Customers
The Group's revenues in the segment of real estate development in Israel stem
from a large number of apartment buyers. The Group is not dependent on any
single customer.
1.8.1.4.
Marketing and distribution
The Company sells residential apartments nationwide, generally under the
Savyonim brand name. See paragraph 1.8.1.6 hereinafter, generally through the
Group's marketing function. In addition, in several cases, the Group receives
sales and marketing services from external factors, including from franchises of
its subsidiary1 Anglo Saxon Property Agency (Israel 1992) Ltd. (hereinafter,
"Anglo Saxon")2.
The Group's sales representatives generally operate out of sales offices located
on the project sites.
The projects included in this segment of operations in Israel are performed, as
at the date of the Periodic Report, largely through joint transactions of the
Group with a second developer. In several joint transactions, Africa Residences
1
Up to November 2006, the Company, through a subsidiary (100%), Africa Israel Trade and Agencies
Ltd (hereinafter "Africa Trade"), held 51% of the issued capital of Anglo Saxon and the voting rights
therein. According to an agreement dated November 2006, Africa Trade acquired the balance of the
holdings in Anglo Saxon from Migdal Holdings and Insurance Agency Management Ltd (hereinafter,
"Migdal") for NIS 7.5 millions, such that as at the date of the Periodic Report, Anglo Saxon is a wholly
owned and controlled subsidiary of the Company (through Africa Trade). Subject to certain conditions,
Migdal has the first right of refusal for a period of 36 months, in the event of the sale of the interest in
Anglo Saxon to an insurance company.
2
Pursuant to agreements between Anglo Saxon and the franchisees, Anglo Saxon is entitled to a
commission.
56
manages project sales for a consideration of a specific percentage of the sales
revenues.1
The projects are generally marketed on the basis of a comprehensive
marketing plan which includes, among other things, an analysis of the
marketing environment based on market surveys, an analysis of the project's
advantages and weaknesses, opportunities and risks, etc. On the basis of said
marketing plans, the Group decides on a marketing strategy for each project,
which is also the foundation for the advertising strategy that accompanies each
project.
An additional means that the Group uses in its marketing efforts is the use of
nationwide image-based advertising campaigns and large-scale sale offers that
are designed, among other things, to create public awareness of the Group's
operations and the projects it markets, and as part of this goal, to increase the
rate and speed of sales.
1.8.1.5
Back-log of orders
Based
on
generally
accepted
accounting
principles,
revenues
from
commitments to sell apartments are recorded in the Company's books
subsequent to the agreement date, according to the execution stage of the
project.2 As from 2000, financial statements of construction companies are
drafted according to the provisions of Accounting Standard No. 2 –
Construction of Buildings for Sale. According to this standard, revenues from
sales are recorded according to a product of the consideration of the sales and
the completion rate of the project, but only after the completion rate of the
projected has reached 25% and actual sales constitute at least 50% of total
anticipated project sales. In this matter, also see Note 15d to the financial
statements. As at December 31, 2005, December 31, 2006 and March 18, 2007,
revenues from sales of residential units in Israel that were not yet charged to
the statement of operations amounted to NIS 157.2 millions, NIS 218.45
millions and NIS 283.95 millions, respectively.
1.8.1.6
Competition
The real estate industry in Israel in general, and the residential construction
sector in particular, are characterized by a high level of competition. There are
1
Up to July 2006, several of the said services were also rendered by the Company. Upon registration of
Africa Residences' securities for trade on the TASE, all the Company's rights and obligations in respect
of rendering management services in several projects managed by the Company (including a single
project in which the Group has no rights, although said services are rendered) were assigned and
converted to the Company. Furthermore, based on an agreement between the Company and Africa
Residences, Africa Residences manages two projects in which the Company is the single holder of rights.
2
For details, see Note 1 U(2) to the Company's financial statements.
57
relatively few companies in this sector that construct hundreds of residential
units in a specific timeframe, such as the Group, while there are many mediumsized and small companies that construct a smaller number of units in a given
timeframe. The Group's main competitors in the real estate development
segment in Israel are, to the best of the Company's knowledge: Azorim, Shikun
Ovdim, Ashdar, Neve Gad, Dankner Investments and Delek Real Estate, A.
Dori, Mishav and Minrav. The Company estimates that its share in the private
sector residential construction industry in Israel, as at the date of the Periodic
Report, is several percentage points.
The Company views as its potential competitor any developer-contractor which
builds in the same geographical area in which the Group builds, as well as
additional developer-contractors that build in areas which may constitute an
appropriate alternative to areas in which the Group builds. The Company
reviews its competitors activities on a regular basis, through market surveys
(known as covert customer surveys) among other things, and uses reviews of
existing media to remain up to date on its competitors' activities. One of the
positive factors that affects the Group's status in this segment in Israel is its use
of the Savyonim trade mark and the positive reputation that the Africa Israel
brand has among apartment buyers.
1.8.1.7
Fixed assets and installations
Since the real estate in this segment in Israel serves as business inventory for sale, the
Group does not have material fixed assets
1.8.1.8
Intangible assets
The Group has built up significant goodwill over 70 years in the construction of
residential neighborhoods in Israel. The “Savyonim” brand is identified with the
residential districts built by the Group (the Group’s various projects have names
identified with each individual project). In June 2006, the Company granted Africa
residences the right, unlimited in limit and for no consideration, at terms defined
between the parties, to use the Company's logo and its Savyonim trade mark1, and all
the permutations and forms thereof that are registered in the segments of Africa
Residences.
1.8.1.9
Human Resources
A.
Until August 2006, the majority of real estate development activities in Israel were
1
The Savyonim trade mark is a registered trade make (in classes: real estate sale and rental services,
building construction services, and real estate development). Registration of the trade mark is valid until
2012, and to the Company's best knowledge, the renewal thereof involves payment of a fee in an amount
which is not material for the Company.
58
performed by employees of the Company's residential division. After this date, the
employees of the residential division were transferred to Africa Residences.
B.
The following is a schematic description of the organizational structure of Africa
Residences, as at the date of the Periodic Report:
CEO
Administration and Customer Service
Economy
Dep.
City Construction Plan
and Real Estate
Registry Dep.
Property
Manager, GIS
Real Estate
Registry
Local Sales
Managers
Salespeople
Marketing
Dep.
Advertising
Finance
Dep.
Accounting
Control
Engineering
Dep.
Deputy
Department
Managers
Project Managers
Site
Supervision
59
C.
As at December 31, 2006, pursuant to the hereinabove structure, 54 employees,
as follows, were engaged in real estate development in Israel:
Job/Division
CEO
Secretariat
Engineering and Real
Estate Development
Finance and Control
City Building plans and
Land Registration
Economics
Marketing
Number of employees
1
1
14
5
7
2
24
In the last 3 years, no material change has occurred in the number of employees in
the residential division (either as Company employees or employees of Africa
Residences).
D.
To the Company's best knowledge, all employees of the residential division work
according to individual contracts. According to oral and written agreements,
employees of the residential division are entitled to salary, ancillary payments and
conventionally accepted social benefits. Several senior employees are in addition
entitled to reimbursement of conventionally accepted expenses, and are entitled to
have a car at their disposal in respect of which the Group bears the expenses
involved in the maintenance thereof. Sales representatives are additionally entitled
to bonuses on sales, based on a mechanism that is defined in advance.
In this context we note that Africa Residence allocated options to officers and
employees of the Company and of Africa Residences, such options constitute as at
the date of the Periodic Report, 2.6% of the issued capital and the voting rights of
Africa Residences.
E.
Employees of the Group in real estate development in Israel undergo training from
time to time, according to their job.
F.
In this context it should be noted that according to agreements between the
Company and between Africa Residences, the Company provides management,
consultation, accompaniment, office and administrative services to Africa
Residences for an annual amount equal to NIS 4.4 million, as at the date of the
Periodic Report, and Africa Residences provided services to the Company by its
economic department, City Building Plan and land registration department, for an
annual amount of NIS 0.6 million as at the date of the Periodic Report. In March
60
2007, the Audit Committee and the Board of Directors of Africa Residences
approved an amendment to the said agreements, such that the management fees
payable to the Company will amount to NIS 1.4 million, and the annual
consideration in respect of City Building Plan and land registration department
services payable by the Company will amount to NIS 1.4 million. The said
amendments are subject to approval by the general meeting of Africa Residences.
1.8.1.10
Raw materials and suppliers
In the ordinary course of its business, Group companies enter into agreements
with contractors for the execution of infrastructure development and construction
works; principal contractors (key contractors) under lump-sum contracts for the
construction of buildings; contractors (generally principal contractors) in
measurement based contracts (based on Bills of Quantity) for the execution of
development works; and with purveyors of engineering services such as architects,
planners, inspectors, project managers, coordinators, supervisors and consultants
(pertaining to electricity, water, roads, air-conditioning and so forth). Payments to
these factors are generally made in accordance with milestones based on the actual
progress in the relevant project.
For details on the agreement between the Company and Danya Cebus, see
paragraph 1.1.6.2 hereinabove.
The Company estimates that in view of the existing substitutes in the market, the
Group is not dependent on any of its suppliers.
It is hereby clarified that the Group companies that operate in real estate
development doe not generally enter into direct agreement with raw material
suppliers and such agreements are effected by contractors (including Danya
Cebus) whose services the Group uses, as noted hereinabove.
1.8.1.11
Working capital
A.
Sales revenues are collected from apartment purchasers over the lifetime of the
project, usually in the following format: on execution of the purchase contract, the
apartment purchaser usually pays 15%–20% of the price of the apartment while
the balance is payable during the course of execution of the project.
B.
To secure payments made by apartment purchasers, the Company grants bank
guarantees or insurance policies, pursuant to the Sale Law (Apartments) (Security
of Investments). The Company commits to a warranty and repair period similar to
that provided in the Sale Law (Apartments). Against this commitment, the
Company receives guarantees from the building contractor. The Group companies
which enter into agreements with Danya Cebus as the principal contractor
61
generally receive no such guarantees
C.
Average suppliers’ credit is 45 to 60 days in the real estate development segment
in Israel in 2006. No material change has occurred in the average suppliers' credit
in the real estate development segment in Israel in the last 3 years.
D.
For additional details as regards working capital in all segments, see paragraph
1.16 hereinafter.
1.8.1.12
Environmental issues
A.
Environmental issues affect this area of the Group’s operations on two principal
levels:
(1)
Elimination of external influences and hazards occasioned by the construction
project and which affect the environment, such as pollution, noise, and landscape
concealment and soil damage. These issues are generally regulated by an Urban
Building Scheme, building permits, and directives of the supervisory authorities.
In some instances, a survey of environmental effects is required prior to
commencement of the project.
(2)
Protection of the project itself and its occupants against external influences and
nuisances such as winds regime, noise from industrial buildings and highways,
proximity to waste facilities or electric cables and so forth.
B.
To comply with statutory requirements and project requirements concerning the
environment, the Group is assisted by professional consultants in the relevant
areas.
1.8.1.13
Financing
A.
General
The Group finances its activities in this segment through independent means and
bank credit from financial institutions. Bank credit extended to the Group’s
corporations is against a mortgage on its rights in the projects,1 including
mortgaging the rights to the purchased real estate, contractual rights related to the
real estate, insurance [policy] related to the real estate, the sales receipts from sold
residential units and so forth.2
The agreements that deal with the aforesaid liens, include, amongst others,
instructions concerning the disallowance of dispossession of any kind from the
1
Most of the bank credit is given in the framework of bank loans and secured by attachments. In some
cases, the Group’s corporations attach, among others, cash, promissory notes, securities deposited in the
bank, reputation, unclaimed and/or unpaid capital stock. In addition, a general lien can be made on all the
equipment, materials and other assets used in building the project.
2
In some cases, the Company has secured loans (without charge) that the Group’s other corporations had
received from commercial banks in connection with the segment’s activity.
62
mortgaged assets (including sale and/or transfer and/or lien); the disallowance of
granting loans and/or loan repayment without the consent of the creditor; the
disallowance of structural change and/or change in control and/or change in the
structure of the capital stock and/or change in the number shareholders and so
forth. In addition, the financing arrangements include the conventional instructions
by which in certain cases the creditor will have the right to have the loans paid
immediately including instances of insolvency and/or a deterioration in the
loaner’s condition and/or a violation of the agreements with the creditor.
At the time of the Periodic Report, the Group has not been required to [meet] any
financial standards in connection with the credit it received from the banks or from
other [parties]. At the time of the periodic report, the Group’s companies met their
obligations as set in the loan agreements. To the best of the Company’s
knowledge, no banking institution, with which the Group is associated, has
demanded that its loans be repaid immediately.
B.
Limitations placed on obtaining credit by the Company -
(1)
Limitations on the borrowing groups – see paragraph 1.23.3.1 hereinafter.
(2)
Construction loan agreements For the financing of various projects that the Group is building, the Group's
corporations, in general, associate with banks through loan agreements
(hereinabove and hereinafter: “Construction Loans”). Under them, the Group
receives a credit line for executing the relevant project. Among other things, it
mortgages to the banks all its rights in the relevant project, produces for the banks
all its contracts with the contractors; it mortgages in the banks favor those bank
accounts relevant to the project and receives from the banks approval to make
withdrawals from these accounts; to meet its obligations concerning the project;
not to sell, lease, transfer and/or deliver to others the right of use in the project
except with the bank’s approval; to pay all the taxes in a timely manner – property
taxes and levies concerning the project as well as to meet the execution schedules
and sales volumes as detailed in each Agreement. To the best of the company’s
knowledge, the rate of equity needed by the Group in each project is such that it
does not show any measure of risk that the commercial bank ascribes to for any
particular project. For additional details, see paragraph 1.8.1.2 (A) (7) (B)
hereinabove.
C.
Bonds issued by Africa Residences
During July 2006, Africa Residences issued debentures to the capital sum of NIS
260 million par value (Series A) (from hereinafter in this paragraph: “Bonds”), that
63
were listed on the stock market. The Bonds are to be paid out in eight (8) equal
annual payments in the month of December from the year 2009 until the year 2016
inclusive. The Bonds are (principal and interest) linked to the Cost of Living Index
and carry an annual interest rate of 5.9% (the effective interest of a rate of 5.31% at
the time of issue), paid in semi-annual payments. The Bonds have been given an
Aa3 grade by Midrug Ltd.
D.
Financial arrangements between the Group’s companies
According to the agreements1 from June 2006, from time to time, Africa Israel
(Finance) 1985 Ltd (from hereinafter, “Africa Finance”) places “On-Call” loans
for Africa Residences which carry an interest at the prime rate extant from time to
time at Bank Leumi Israel at an annual discounted at 1.25% (from hereinafter:
“The Agreed Interest”). Africa Residences is allowed to place annual deposits by
Africa Finance that carry a variable interest at the agreed interest. The maximum
sum of all the loans shall not exceed the sum of NIS 250 million and the maximum
sum of deposits that Africa Finances can place at Africa Finance shall not exceed
hereinabove 33% of Africa Residences’ equity. These agreements replace the
routine financing proceedings that took place between the parties until that time.
The credit and debit balances between other corporations and the Company and/or
Africa Finance in this segment of activity are linked and/or carry interest as set
from time to time.
E.
For additional details, see paragraph 1.23 hereinafter.
1.8.1.14
Business Strategy and Aims
A.
The Group focuses its activity in the real estate development sector in Israel in
residential construction.
B.
The Group’s business strategy in this sector is to enlarge its scope of activity in
this sector while constantly improving upon the quality of the projects, as well as
the apartments that are sold therein, for the clients’ benefit.
1.8.1.15
Development Forecast For The Coming Year
This coming year, the Group’s intends to continue constructing and marketing the
existing projects (projects being implemented) and begin constructing and
marketing new projects that have matured design-wise.
1
The validity of the loan agreement (from hereinafter: “Loan Agreement”) is for five (5) years beginning July
2006. In accordance with African Residences’ obligation, the agreed-upon interest according to the loan agreement
will be reviewed every six (6) months by the control board and the Directorate of Africa Residences. The deposit
agreement (from hereinafter ”The Deposit Agreement”) was approved during December 2006 as a framework
[master] transaction ((in accordance with the meaning of the term as it appears in the Companies Law (Exemptions
on Transactions With Interested Parties), 5760 – 2000)) by the General Meeting of Africa Residences for a period of
two (2) years and in accordance with placing the deposits according to the Deposit Agreement, subject to the
approval of the authorized organizations under the instructions of the Companies Law and/or the aforesaid
regulations.
64
In the coming year, the Group expects to begin construction and marketing of most
of the projects that appear as projects in planning, in the table in Paragraph 1.8.1.2
(E)(1) hereinabove, except for “Kfar David” Project, which was sold after the
closing balance date.
The Company’s development forecast for the coming year constitutes futurelooking knowledge, based upon the Company's estimations of its economic and
business development while paying attention to the special characteristics of each
project detailed hereinabove and with consideration of the Company’s experience.
These estimations can possibly not materialize, or materialize in some different
manner that expected by the Company, amongst others, because of various
external factors (such as the planning authorities and changing market conditions)
or because of the materialization of risk factors as listed in Paragraph 1.32,
hereinafter.
In this regard, it should be noted that during its routine business, the Group carries
out negotiations to make business connections for the purchase of real estate to
erect residential projects. As of the report date, there is no certainty that any
negotiation will crystallize into a binding transaction.
1.8.1.16
Events after the closing balance date
A.
During January 2007, Africa Residences engaged in an Agreement (from
hereinafter in this paragraph: “The Agreement”) with a third party (from
hereinafter in this paragraph: “The Proprietors”), according to which, the Company
will purchase from the proprietors, the rights to real estate with an area of about 57
dunam, in northern Kfar-Saba (from hereinafter in this paragraph: “The Realty”),
for the purpose of erecting upon it high-rise residential units. The Agreement’s
validity is conditioned upon approval of new Urban Planning which is mainly for
residences (from hereinafter in this paragraph: “New Urban Planning”), whose
advancement will be executed by the Company at those set time and conditions. In
exchange, Africa Residences will pay the Proprietors 38.5% of the sales receipts
(from hereinafter in this paragraph: “The Basic Exchange”), as detailed in the
Agreement. The Proprietors will be entitled to an additional exchange according to
the “up-scale” mechanism. It is [hereby] clarified, that the commercial areas
assigned to the Proprietors, such as will be allocated, in the New Urban Planning,
are not included in the scope of the sale. The Proprietors and/or any one of them
will be entitled to demand from Africa Residences that the transaction, in whole
and/or in part, will be a disclosed combinatory transaction. The Proprietors have
the possibility to apply the transaction to an additional 13 dunam, which is under
65
their proprietorship and adjacent to the Realty (apparently, also in the boundaries
of the New Urban Planning).
B.
During February 2007, African Residences and a third party, which is an equal
partner with it, engaged in an Agreement (from hereinafter in this paragraph: “The
Purchasers”) for the purchase of 3,250 sq.m. on Rav Kook Street in Jerusalem
(from hereinafter in this paragraph: “The Realty”), from the Jewish Agency For
Israel Provident and Pension Fund (from hereinafter in this paragraph: “The
Seller”). According to the valid Urban Planning, the Realty will be allowed to
have built on it about 15,500 sq.m., mainly for residences, and some 5,500 sq.m.
for service areas. A total of 21,000 sq.m. with additional building areas for
underground parking.
In exchange for rights to the Realty, the Purchasers will pay to the Seller the sum
in New Shekels equal to USD 28,318 million in payments as set by the parties. The
expected investment in the Realty after purchase is estimated at about USD 34
million. It is the Purchasers intention to finance 70% of the purchase through bank
credit and the remainder by private sources. It is to be noted, that the aforesaid
concerning the expected after-purchase investment in the Realty, constitutes
future-looking knowledge, based upon the data, the assessments and information in
the Company’s hands at the time of the report and can possibly change due to
circumstances over which the Company has no control.
C.
During February 2007, Africa Israel Residences and the real estate partner engaged
in an Agreement for the sale of their rights in “David’s Village,” Jerusalem. See
the table in Paragraph 1.8.1.2 (E) (1) hereinabove.
D.
During February 2007, Africa Israel Residences and the other party to the
transaction, signed affidavits for cancelling the sales transaction, which was
contingent in regards to the “Savyon Hadera” Project in Hadera, because the
period for realization of the contingent condition had passed.
1.8.2
Real
estate
development
overseas
(Excluding
US,
Russia
and
the
Commonwealth of Independent States)
Most of the real estate development overseas (excluding the US, Russia and the
Commonwealth of Independent States) is executed through Africa Israel Properties
Ltd. The Group holds land designated for residential building in the Czech
Republic, Bulgaria and Romania. In addition, the Group has an associated
company that develops real estate in the Philippines.
1.8.2.1
General information the segment
For additional information concerning the economies of the Czech Republic,
66
Bulgaria and Romania, refer to paragraphs 1.9.1.1 (C)(6), 1.9.1.1 (C)(9) and
1.9.1.1 (C)(8) hereinafter. In addition it is to be noted as follows:
The Czech Republic – In the Company’s estimation, there is high demand for new
modern apartments in the Czech Republic versus the low supply, which is
supposed to continue until 2010.
Bulgaria – The residential real estate market in Bulgaria continues to be a demand
market because of a developed mortgage market, accessible by the lower middle
class market segment.
Romania - In the residential sector in Romania there is recognizable development
all over Bucharest, especially in the central and northern areas.
1.8.2.2
Products and services
A.
The Korunni Dvur Project, Prague, the Czech Republic – The Group holds
50% of the rights to a residential project in Prague, the Czech Republic, intended
for 253 apartments and commercial areas with a total area of 7,000 sq.m.. As of
December 31, 2006, the Group completed constructing the project. As of
December 31, 2006, the Group sold 228 residential units and about 4,916 sq.m. of
the project’s commercial area. In 2004, no income was generated to the Group
from this project. During the years 2005 and 2006, the Group’s total income from
the project was NIS 81,566 million and NIS 142,952 million, respectively
(including some insignificant earnings from areas that were rented and sold and/or
are to be sold in the future. The gross earnings in the financial reports for the
aforesaid years totaled approximately 23% and 20%, respectively.
B.
Hereinafter is a table that includes details on the residential projects of the
wholly-owned subsidiaries of Africa Israel Properties1 which are in various
stages of erection and/or planning:
Project Name
Vokovicky, 6th
District,
Prague, the Czech
Republic
Modranske Trio,
12th District, Prague,
App. No.
of units
(valid or
invalid
plans)
Execution
Stage on
Dec. 31,
2006
Book value
(including
land) on Dec.
31, ‘06
Total
anticipated
project cost
(NIS millions)
Planned
Completion
Date
100
In planning
(*)
12.290
91.255
2nd half of
2009
120
In planning
12.844
62.877
2nd half of
2008
1
As part of its operations to concentrate the Group’s activity in Europe under AFI Europe NV (from hereinafter:
“AFI Europe”), a wholly-owned subsidiary of Africa Properties, and in accordance with the approval of the General
Meeting of Africa Properties dated May 2006, the Company’s wholly-owned subsidiary transferred all its holdings in
the corporations that are executing the hereinafter listed projects (excluding “Pipera Grands” project whose rights
were purchased after the aforesaid date) to AFI Europe.
67
the Czech Republic,
Stage 1
Modranske Trio, 12th
District, Prague, the
Czech Republic,
Stage 2
Rokytka,
the Czech Republic
Stage 1
Rokytka,
the Czech Republic,
Stage 2
Vitoscha Grands,
Sofia, Bulgaria
Malina Grands,
Sofia, Bulgaria
Pipera Grands,
Bucharest, Romania
(*)
120
Initial
planning (*)
86
In execution
92
Initial
planning (*)
144
In planning
15.419
75.930
750
In planning
(*)
Initial
planning (*)
31.583
168.598
58.386
918.110
2500
19.899
33.386
2nd half of
2010
96.813
1st half of
2008
2nd half of
2008
1st half of
2008
2nd half of
2008
2013
The required City Building Plans have yet to be prepared and/or approved and/or been
validated.
For additional details concerning the rights to erect residential units under the Pardubice
Palace in the Czech Republic, see the table in paragraph 1.9.1.2 (H) hereinafter.
It is [hereby] clarified, that the data referring to the projects’ expected expenses and
planned completion date constitutes future-looking knowledge and based upon the
information held by the Company at the date of the Periodic Report.
1.8.2.3
Clients
The Group’s clients in this secondary segment are private ones with a wide range of
various characteristics. The main portion of the clients in the Korunni Dvur Project
consists of local private factors from the upper middle class. Most of the clients for the
“Rokytka” project are local factors from the upper middle class. The “Rokytka” project
is aimed mainly at middle-class clients.
1.8.2.4
The Group's operations in marketing the Korunni Dvur and Rokytka projects in the
Czech Republic are performed by a local marketing firm that operates the sales offices
and is responsible for sales promotions. The Group has not yet begun marketing
operations in other projects in East and Central Europe.
1.8.2.5
Back-log of orders
By accepted accounting rules, Accounts Receivable from engaging in the sale of
apartments listed in the Company's books after the date of engagement are entered
according to the stage of execution that the project is at. See also Paragraph 1.8.1.5
68
hereinabove. On December 31, 2005, December 31, 2006 and March 1, 2007, the
balance of Receivables from apartment sales in the Czech Republic that were yet to be
credited to the Profit and Loss report was about NIS 15 million, about NIS 34.5 million
and about NIS 28.75 million, respectively.
1.8.2.6
Competition
By its nature, the real estate market includes a large number of competitors in this
secondary segment that the Group is active in. Its share in the markets it is active in is
quite small. The advanced competition is in the realm of locating appropriate properties,
erecting buildings of a required quality and finish, as well as marketing them to the
clients.
1.8.2.7
Human Capital
The Group’s representatives in the various countries carry out the Group’s activities in
Eastern and Central Europe. See Paragraph 1.9.1.8 (D) hereinafter.
1.8.2.8
In general, in the Czech Republic, the Group engages a local contracting company for
constructing the projects with the “Development Contract” method. The Group has yet
to begin executing its other projects in Eastern and Central Europe.
1.8.2.9
Operating capital
According to the Czech Republic custom and law, the purchaser pays between 15% and
20% of the purchase exchange upon signing the purchase contract. The balance is paid
into a trust account (until the time the apartment is listed under the purchaser’s name at
the Land Registrar) after signing the final purchase contract and with transfer of the
apartment. As aforesaid, The Group has yet to start marketing activities on the other
projects in Eastern and Central Europe.
1.8.2.10
See paragraph 1.9.1.12 hereinafter.
1.8.2.11
Investment in the associated company in the Philippines in the real estate development
segment
69
Company
Held
Description
of Asset
Percentage
of Holding
as at
December
31, 2006
(NIS
millions)
Investment
in Capital
Stock
(NIS
thousands)
Shareholders'
Loans (NIS
thousands)
Company’s
Share of
Accumulated
Earnings
(NIS
thousands)
Investment
in
Consolidated
Report for
Dec. 31,
2006
(NIS
thousands)
Filinvest
AII
Philippines
Inc.1
Total are of
582 dunam
in Manila
area, for
parcelation
into 610
lots for
residential
building
and a
fitness
club.
40%2, 3
33,000
--
266
33,266
1.8.2.12
Limitations and regulation of the segment
To the best of the Company's knowledge, this segment’s activity in the Czech Republic,
in addition to the laws and regulations that fix the character of the construction, its
quality and required supervision of its execution, there are specific regulations
concerning building preservation.
1.8.2.13
Business aims and strategies
It is the Group’s intention to broaden its business in the residential segment in Eastern
and Central Europe, including countries where the Group is not now active.
1.8.2.14
Events After the balance sheet date
A.
According to the letter of intent signed on January 3, 2007, as amended on February 28,
2007 and on March 19, 2007 (from hereinafter, “Letter of Intent”) between AFI Europe
and the company from the B.S.R. Group and with additional factors (from hereinafter:
1
The remainder of this company’s shares are held by Filinvest Land Inc. (from hereinafter: “Filinvest”), which is to
the best of the Company’s knowledge, a Philippine registered company whose shares are listed on the Philippine
stock exchange. The agreement between the parties arranges, amongst others, the relationship as shareholders in this
company as well as setting the limits concerning the transfer of holdings in this company. For details concerning the
other associated company in the Group that holds the remainder of the company’s shares are held by Filinvest, see
paragraph 1.9.1.2 (M) hereinafter.
2
Though the conditions laid for the transaction were met, the transaction was conditioned for the final completion,
subject to the approval of the changes that the parties made to the basic documents of the project company as well as
increasing the project company’s capital. In the event that the conditions are not met as aforesaid, from 270 days
from the date of the transaction’s completion, in September 2006, the Group shall be entitled to the return of the
funds paid by it with the additional set interest.
3
In addition, the Group received the option, which can be exercised during the period of 54 months from the date the
transaction is finalized, to purchase 40% of the rights in additional land on the site, with a total area of 5,500 dunam
(1,375 acres) (from hereinafter: “Realty Option”), in exchange of 770 Philippine Pesos (about NIS 67) per m2 and
with a discount upon realizing the option, about NIS 372 million. The Company has paid on account, for the realized
price of the option, the sum of NIS 5.3 million.
70
“The Purchasers”) concerning purchase of the sellers’ shares in the holding companies,
directly or indirectly, in six projects in the real estate segment in Eastern Europe as listed
in the table hereinafter:
Project:
Holding for
Purchase
Soleville,
Riga, Latvia
100%
The
Consideration
(In million
Euro)
31.7
Metropolia,
Riga, Latvia
100%
3.5
22.5
Wilanow,
Warsaw,
Poland
49%
49.5
194
Osiedle
Europejskie,
Cracow,
Poland
100%
36.4
144.5
Lugera,
Sophia,
Bulgaria
100%
7
15.8
Total:
App. Land
Area (in 1000
sq.m.)
Project Building
Rights (as given by
the Sellers)
104
App. 2,350
residential units with
a total area of 204
thousand sq.m..
Also, App. 3.7
thousand sq.m.
commercial and
public areas.
App. 550 residential
units with a total area
of 45 thousand sq.m.
App. 2,500
a total area of 255
thousand sq.m..
Also, App. 15
thousand sq.m.
commercial areas.
App. 2,400
a total area of 125
thousand sq.m..
Also, App. 2
thousand sq.m.
commercial areas.
App. 570 residential
units with a total area
of 47 thousand sq.m..
Also, App. 2.5
thousand sq.m.
commercial areas.
128.1
According to the letter of intent, the parties set April 1, 2007 as the target date for
signing the final agreement and to finalize the transaction. In accordance therewith, the
deposit made by AFI Europe under the letter of intent, of the sum of 10 million Euros,
shall be returned to AFI Europe in the event that the final agreement is not signed, for
whatever the reason, by April 1, 2007. According to the letter of intent, B.S.R. will not
negotiate or enter into any contradictory agreement or one similar to the association as in
the letter of intent. The hereinabove information, in all concerning the signing of the
71
final agreement, engaging with third parties for the purchase additional holdings in the
projects and for finalizing the transactions, constitutes future-looking knowledge. The
Company expects that completion of the transaction for purchasing holdings in the
aforesaid projects will take place during the second quarter of 2007. It is to be stressed
that there is no certainty that the transaction will be completed, amongst others, because
of the incompletion of the negotiation and/or receiving the various required consents
from third parties.
B.
During January 2007, a foreign company, under total (indirect) ownership by the
Company, purchased agricultural land at a distance of 30 km from the center of
Bucharest. It has a total area of 190 thousand sq.m. for a consideration of 700,000 Euros.
C.
During February 2007, a foreign company, under total (indirect) ownership by the
Company, purchased some 15.5 dunam in the center of Bucharest at the exchange of 16
million Euros. It is the Group's intention to erect some 800 residential units on the land.
D.
During March 2007, the subsidiary, under the Company’s total ownership (from
hereinafter: “The Subsidiary”) entered into an agreement to purchase shares and into a
shareholders agreement (from hereinafter in this paragraph: “The Agreements”) with a
foreign company (from hereinafter in this paragraph: “The Project Company”) as well
as with the shareholders of the Project Company (from hereinafter in this paragraph:
“The Sellers”). According to which, amongst others, subject to completion of the
agreements, the subsidiary will purchase holdings in the Project Company from the
Sellers. In addition, it will invest in the capital stock of the Project Company (against
stock allocation in the Project Company), so that upon executing the aforesaid, the
subsidiary will hold 50% the Project Company’s issued and paid capital stock (from
hereinafter: “The Transaction”).
The Project company is the owner of the rights to a historic building in Buenos Aires,
Argentina, with a total area of 7,000 sq.m. on a lot of about 1,000 sq.m. (from
hereinafter: “The Property”). The property is located in the commercial center of
Buenos Aires where, amongst others, the Argentinean Central Bank is located. It is the
Company’s intention to develop the property and turn it into a luxury apartment building,
containing, amongst others, 54 residential units (for sale), a swimming pool, restaurants
and a health club (from hereinafter in this paragraph: “The Project”).
According to the agreements, in exchange for the sold shares and the allocated shares as
aforesaid, the subsidiary will pay between USD 1 million and USD 4.75 million as
detailed hereinafter.
A sum of USD 0.5 million of the exchange will be paid in cash to the Project Company
at the time the transaction is completed. A sum of USD 0.5 million of the exchange will
72
be paid to the Project Company at the start of project implementation on the Property,
and will serve for the Property’s development. The balance of the exchange (until the
sum of USD 4.75 millions, as aforesaid) will be paid from time to time to be used for the
Property’s development; if and should more funds be needed by the Project Company
cannot pay them from its own sources. Any additional sum needed for the projects
development will be paid in equal shares by both parties. At the time of the periodic
report, according to the Company’s estimation, continued project development will take
approximately 18 months. The scope of the entire investment in the Project at this stage,
is estimated to be about USD 12 million. The subsidiary’s portion in the Project, as
aforesaid, (including the exchange hereinabove) is expected to be a total of about USD 5
million.
Execution of the transaction is subject to, amongst others, the completion of a number of
documents to the complete satisfaction of the subsidiary. It is to be noted that the
information concerning the completion of the transaction constitutes future-looking
information, which is based on the assumption that the transaction will be completed. It
is possible that these intentions and forecasts do not materialize because of incompletion
of the transaction, as aforesaid, as a result of circumstances not dependent on the
Company, including in this, non receipt of the documents required to complete the
transaction to the subsidiary’s complete satisfaction. The hereinabove information, as
much as it concerns the Project’s period and the scope of the required investment,
constitutes future-looking information, based upon the Project Company’s assessments
and it is possible they will not materialize, aside from others, for reasons of delays in
receiving the suitable certifications and/or unforeseen delays in executing the Project,
changes in market conditions and/or other causes that are, to the best of the Company’s
knowledge, unknown to the Project Company’s knowledge at the time of the periodic
report.
1.8.3
Real estate development in the USA
1.8.3.1
Background
The Group began operating in the USA in 2002, under a partnership with Mr. Shaya
Boymelgreen (from hereinafter: “Mr. Boymelgreen”),1 who became the central factor in
the Group’s activity in the USA. The partnership, as aforesaid, is to terminate in April
2007. See also Paragraph 1.27.1 hereinafter. At this time, it is not possible to assess the
measure of influence the termination of the partnership with Mr. Boymelgreen will have
upon the Group's activity in the USA.
The Group is active in the USA through real estate development companies (usually,
1
In some cases, the Corporation remains tied to Mr. Boymelgreen also as the project’s main contractor.
73
incorporated companies), that are under its ownership, in partnership with the developing
entrepreneurs. The Group creates partnerships with established real estate development
and investment firms, which in its opinion are capable to bring with them pronounced
expertise in the local market as well as accessibility to development opportunities.
The Group customarily purchases developed properties and/or undeveloped ones and
puts up projects upon them. Included in the aforesaid, in some cases the Group purchases
existing buildings, works to change their purpose in accordance to its needs. For details
concerning the projects the Group developed and is developing, as well as its holdings in
associated companies that engage in the real estate development segment, see paragraph
1.8.3.3 (E) hereinafter. In addition, the Group continues to hold under its ownership
commercial and office areas, in real estate development projects whose development was
completed in New York, which it leases to various tenants. These projects are described
under the rental properties segment in Paragraph 1.9.2.3 hereinafter.
1.8.3.2
General information on the segment activity
A.
General – The residential apartment market in the USA continued, in 2006 as in 2005,
continues to be stabilized at a relatively high level of activity. New house sales in all of
2006 totaled 1.061 million houses. The median price for a new house in the USA went
down in December by 1.3% as against the same month in the previous year, to $235
thousand.1 Over the past few years, the construction market in the USA has enjoyed great
growth accompanied by rising prices, which is influenced by falling mortgage interest
rates by more than two percentage points between the years 2000 and 2005. In 2006, the
mortgage interest rate was raised. This caused a fall in demand for apartment purchases.
Therefore, in summation, in 2006 new home sales fell by more than 17% versus the
record level of 2005. The average growth rate in the USA stands at 3.4% and the interest
rate stays at the 5.25% level.2
To the best of the Company’s knowledge,3 indications show that the American real estate
market is cooling off. With all this, it appears that the main weakness is in residential
real estate, in specific areas, while the commercial real estate segment continues to be
stable.
The Groups assessment is that the main entry barriers to this segment is the first
significant investment of equity, finding large scope bank sources as well as professional
knowledge in planning and marketing the projects.
Hereinafter are additional details concerning the markets in which the Group operates in
1
According to the article in The Marker from January 26, 2007, house sales in December rose sharply more than
expected but overall annual sales fell by 17%.
2
The
data
was
taken
from
the
site
“Economic
Models”
on
February
6,
2007:
http://www.modelim.co.il/ShowNews.asp?id=7.
3
According to the IBA Investment house review from December 2006, (from hereinafter: “The IBA Review”).
74
this segment in the USA.
B.
New York – According to The Downtown Alliance State of Lower Manhattan Report,1
some 311 thousand people were employed in Lower Manhattan (from Chambers Street
and South) during 2005. In addition, according to the aforesaid report, the Lower
Manhattan area population has grown by 16,000 people since the Twin Tower disaster to
about 39,000. The Company estimates that the demand for residential areas in Lower
Manhattan will grow in the areas where the population grows. According to the Marcus
& Millchap Capital Markets Quarterly Report2 from the year 2006 (from hereinafter:
“The Marcus-Millchap Report”), out of the 3,352 residential units built in New York
in 2005, 2500 were built in the West Village and Lower Manhattan areas. As the Lower
Manhattan population grew so did the property value. Consequently, according to the
appraisers of Miller Samuel, Inc., the mid-point (median) of apartment prices in the
Financial District of Lower Manhattan (where some of the Group’s projects are located)
rose from $250 thousand in 2001 to $740 thousand in 2006. Also, according to I.B.A.’s
survey, New York was almost entirely unaffected by the real estate market cooling off
with apartment (Condo) prices in Manhattan (versus the Co-op market) do not show a
decline even at this time, so despite the increase in apartment inventory and sales days,
the prices remain at their high level of about USD 1.5 million per residential unit.
C.
Miami – The market in downtown Miami is benefiting from the population growth.
According to the I.B.A. survey, the main factor in apartment sales in the city is the high
immigration rate that Miami concentrates over the past decade and the economic
recovery from the crisis at the beginning of the decade in the Southern states whose
citizens form a large proportion of apartment buyers in Miami. According to the Miami
Downtown Development Authority Baseline Report, 2000-2005,3 that from 2000 to
2005, the areas population grew at a rate of 9.5%. At the same time, the average income
per household grew at a rate of 27.5% to USD 62 thousand. According to this report,
from 2000 until 2005, residential construction was accompanied by a 164% rise at the
mid-point (median) of sales prices. The rise in the number of real estate transactions
from 2000 to 2005 was powered by the rise in the sale of condominium units (a growth
of about 294% in the said period according to the Development Authority of South
Miami). According to the I.B.A. survey, the aggressive development in Miami created a
large apartment inventory in 2006 with its accompanying significant growth of supply.
1
To the best of the Company's knowledge Downtown Alliance is a New York development group concentrating on
the growing economy of downtown Manhattan.
2
To the best of the Company's knowledge, Marcus & Millchap is one of the largest real estate investment firms in
the USA. The aforesaid report was published in October 2006.
3
To the best of the Company's knowledge, The Miami Downtown Authority is a non-profit organization active in
downtown Miami. The said report was published in July 2006.
75
From the demand side, the market demonstrated a slowdown. In addition, the deadly
hurricanes that struck the city in 2005, contributed their share.
D.
Los Angeles – The downtown area of Los Angeles is in the city’s center close by to
major transportation arteries. According to the Downtown Centre Business Improvement
District Report,1 the Los Angeles downtown area has some 13,000 businesses of various
types (as of January 2006) (a growth of 25% since 1991). According to the aforesaid
report, Los Angeles’ downtown area has some 450,000 work places created by the area’s
businesses. The Company's assessment Los Angeles’ downtown area is expected to
transform itself from a concentration of work places to one that is active for business and
entertainment, 24 hours a day. According to the report, Los Angeles’ downtown area has
a population of 24,000 people and is expected to double itself by 2009. The aforesaid
report notes that the population had grown by 21% between 2004 and 2006. The median
income per household in the area has grown from about $96.3 thousand in 2004 to about
$99 thousand in 2006. During the same period, the percentage of homeowners in the area
grew from 18.6% in 2004 to about 30.2% in 2006.
1
To the best of the Company's knowledge, The Downtown Centre Business Improvement District is a coalition of
about 480 property owners. The said report was published in February 2007.
76
1.8.3.3 Products and services
A. The table hereinafter includes details about the Group’s real estate development projects in the USA that are in various stages of erection
and/or planning:
Percentage holding
Number of
housing units
Approx. additional
area to be sold or
let (sq. m.), net
Status of the project
Estimated date
of completion
65%
409
3,172 commercial
Under
construction
Fourth quarter
of 2007
65%
60
Cannot be
estimated
Preliminary
planning
Cannot be
estimated
36.9%
600
Cannot be
estimated
Preliminary
planning
Cannot be
estimated
2,679 commercial
7,377 - hotel4
596 - commercial
1,627 commercial
Under
construction
Under
construction
Under
construction
Fourth quarter
of 2007
First quarter
of 2009
Third quarter
of 2008
Name of project
Location
Partner
20 Pine\The
Collection
New York
(Wall Street)
Boymelgreen1
Beach Front
Community
New York
(Queens)
Boymelgreen
Gowanus
Village2
New York
(Brooklyn)
Boymelgreen
[and third party]
111 Fulton
New York
(Wall Street)
Florida (Miami)
Fulton-Club
Boymelgreen
50%
65%
163
3063
Boymelgreen
65%
66
Marquis
Vitri5
Florida
(South Beach)
1
Mr. Boymelgreen, including through companies owned by him (hereinafter, "Boymelgreen").
Project development is subject to approval of relevant City Building Plans. Discussions with the planning authorities have commenced, but a decision is not expected to be
made before June 2007. Furthermore, it should be noted that the Group was, prior to the development, required to clean up soil contamination that was discovered. Cost of
contamination clean up is estimated at USD 300 thousands.
3
As at the date of the Periodic Report, the project has the required approvals to construct 60 stories of the planned 67 stories in the project. The addition of 7 stories is subject
to the required approvals by planning and/or governmental entities. It is clarified that the quantity of 306 units refers to 67 stories. In the event that the additional 7 stories are
not approved, the project will comprise 274 units.
4
Designated for operation by a third party who has the right to purchase the hotel areas.
5
Pursuant to the demand by the project's financing entities to update the terms of the units offered to buyers, the Group informed the buyers that pursuant to advice it
received, it has modified the unit offer documents, and under the conditions proscribed by law, the Group permits them to terminate their agreements with the Group
regarding this project. As at the date of the Periodic Report, all prior agreements regarding the project, excluding 4, have been terminated. The project requires additional
financing for construction pursuant to the new plans. Accordingly, the Group has reinitiated the pre-sale process of the properties at higher prices than previously offered for
sale.
2
77
Name of project
Location
1101 Brickell 1
Florida (Miami)
Soleil 3
Florida (Miami)
Percentage holding
Boymelgreen
65%
650
3,000 commercial
1,930 - lobby
Planning2
Cannot be
estimated
Boymelgreen
65%
195
1,300 commercial
700 commercial
Planning4
Cannot be
estimated
Hotel 5,
commercial and
parking area
cannot be
estimated
Planning
Cannot be
estimated
Partner
141
Performing Arts
Center6
Florida (Miami)
Approx. additional
area to be sold or
let (sq. m.), net
Number of
housing units
Boymelgreen
65%
Cannot be
estimated
Status of the project
Estimated date
of completion
1
As at the date of the Periodic Report, the Group and its partners are re-considering the proposed plan for the project and its economic feasibility.
As at the date of the Periodic Report, the property includes an area of 24.3 thousand sq.m. of leased office space.
3
As at the date of the Periodic Report, the Group and its partners are re-considering the proposed plan for the project and its economic feasibility. The pre-sale process prior
to construction has been suspended.
4
As at the date of the Periodic Report, the property includes an area of 9000 sq.m. in office space.
5
Construction of the project is subject to the acquisition of adjacent real estate. The Group entered into an agreement to purchase the adjacent property, with a local institute
of higher education. As at the date of the Periodic Report, the council disputes its obligation to complete the transaction. The Group is negotiating with the relevant
authorities in order to settle the dispute. In the event that the adjacent property cannot be purchased, the Group will reconsider the economic feasibility of the project.
6
Designated for operation by the Group.
2
78
B. The table hereinafter includes details about the Group’s real estate development projects in the USA that have been completed (or have
been sold prior to completion):
.
Holding
Number of
housing units
Approx. additional
area to be sold or let
(sq. m.), net
Estimated date
of completion
724 - commercial
January 2006
Name of project
Location
Partner
15 Broad
New York
(Wall Street)
Boymelgreen
65%
382
85 Adams\
Beacon Tower
84 Front\The Nexus
New York
(Brooklyn)
New York
(Brooklyn)
Boymelgreen
65%
79
375 - commercial January 2007
Boymelgreen
65%
56
337 - commercial May 2006
1,540 - commercial May 2005
River Lofts
New York
(Tribeca)
Boymelgreen
65%
68
60 Spring
New York
(Soho)
Boymelgreen
65%
40
14 Wall
New York
(Wall Street)
Boymelgreen
65%
Not relevant
101,600 - office Sold before rezoning/construction
Pacific 800
New York
(Brooklyn)
Boymelgreen
65%
Not relevant
Not relevant Sold before rezoning/construction
35 - 45 Front St.
Florida
(Miami Beach)
Boymelgreen
52%
Not relevant
1680 Meridian
Florida
(Miami Beach)
Boymelgreen
65%
Not relevant
NE Tenth Street
Florida
(Miami Beach)
Boymelgreen
65%
Not relevant
789 - commercial March 2005
79
C. The table hereinafter includes details about the Group’s real estate development projects in the USA that were sold after January 1,
2004:
Percentage holding
Sold
Date of completion
of sale
Yield (NIS thousands)
Profit (NIS thousands)
100 Ocean Garage (undeveloped site)
65%
All
May 2005
11,508
2,136
Brickell Corridor (undeveloped site)
65%
All
August 2005
8,437
1,795
Beachfront Community (undeveloped site)
65%
Plot
March 2005
11,047
9,998
60 Spring
65%
Commercial area of
7,859 sq. ft.
September 2005
39,126
9,409
55 Exchange
65%
All
February 2006
86,955
44,672
Pacific 800
65%
All
March 2006
200,543
62,427
19 NE Ninth Street (undeveloped site)
65%
All
February 2006
19,475
3,485
NE Ninth Street (undeveloped site)
65%
All
February 2006
43,741
3,806
Renaissance Garage (undeveloped site)
65%
All
February 2006
38,910
16,092
1680 Meridian
65%
All
June 2006
67,115
-
35 - 45 Front St.
52%
All
December 2006
17,229
753
14 Wall
65%
All
Not yet completed1
325,000
-
Name of project
1
Completion of the sale is anticipated in April 2007.
80
D. The table hereinafter includes additional financial information on the Group's (unsold) projects in the USA:
Percentage of
housing units
sold
approximate
to date of
periodic
report
Name of project
20 Pine\The Collection
Results
Income 1 in NIS millions in the financial
Statements for the year
Percentage gross profit in the financial
statements for the year
Amounts
invested in
the project as
at 31.12.06 in
NIS millions
(including
land)
(housing
only)
Estimated
overall cost of
project (NIS
millions)
67%
-
-
-
-
-
-
1,139
1,727
-
-
-
-
-
-
-
37
101
-
-
-
-
-
-
-
76.4
1,201
-
-
-
-
-
-
-
130.5
584
61%
-
-
267
-
-
30.2%
394
1,155
6%
-
-
-
-
-
-
108.3
338.5
2
-
-
-
-
-
-
125
Cannot be
estimated
1101 Brickell
-
-
-
-
-
-
-
252
Cannot be
estimated
Performing Arts Center
-
-
-
-
-
-
-
87.8
Cannot be
estimated
100%
-
1,345
397
-
44.7%
43.7%
1,156.5
1,322
84%
-
-
132
-
-
11.13%
186
230
Beach Front Community
Gowanus Village
2
111 Fulton
Marquis
Vitri
Soleil
15 Broad
85 Adams\Beacon Tower
1
2
32%
Not including insignificant income from parking lot operations.
Sales represents signed contracts that have not yet been completed.
81
Name of project
Percentage of
housing units
sold
approximate
to date of
periodic
report
Results
Income11 in NIS in the financial statements for
Percentage gross profit in the financial
the year
statements for the year
Amounts
invested in
the project as
at 31.12.06 in
NIS millions
(including
land)
(housing
only)
Estimated
overall cost of
project (NIS
millions)
84 Front\The Nexus
73%
-
-
165
-
-
26%
125
147
River Lofts
98%
392
203
34
43.6%
30.8%
20.4%
395
Not
relevant
60 Spring 2
100%
229
1
11
25.8%
203.7%
-
202
Not
relevant
1
2
Not including insignificant income from parking lot operations.
Parts of the property have been sold, see paragraph 1.8.3.2(b) hereinabove.
82
E. The table hereinafter includes information on the Group's investments in consolidated companies engaged in real estate development
in the USA:
Name of project
Atlantic Court\
The Smith
Pershing
Square Park Fifth
1
Description of property
Partner
Percentage
holding as at
31.12.06
Investment in
equity
(NIS thousands)
Shareholders'
loans
(NIS thousands)
Company's share
in accumulated
profit (loss)
(NIS thousands
Total investment
as per
consolidated
financial
statements of the
Company as at
31.12.2006
(NIS thousands)
Land in Brooklyn (New York)
designated for the construction
of a building which will 1
comprise appr,. 50 housing
units; commercial area for rent
(approx. 1,080 sq. m.) and
approx. 4,670 sq. m. to be sold
to a third party as a hotel. 1
Boymelgreen
49%
24,019
-
(5,670)
18,349
Land and parking lot in Los
Angeles, (California), designated
for the construction of a project
which will comprise approx. 900
housing units and commercial
area for rent (approx. 90
thousand sq. m.)
Namco
Capital Group;
Houk
Development
Company, Inc.
30%
35,156
-
321
35,477
Closure of the hotel sales agreement is expected upon receipt of the occupancy certificate, which is anticipated to be received in July 2007.
83
To remove any doubt, it is hereby clarified, that the information in the tables of
paragraph 1.8.3.2 above refers to actual erection of the projects but have yet to
begin construction, plans that are yet to be approved as well as the areas, the
number of residential units, the additional estimated project costs, the expected
completion date are all future-looking information. The data in the tables are
based, amongst others, on assumptions, as follows: (1) The Group will decide to
make use of the reserve land or the conditions for completing the transaction will
be met, according to the matter. (2) The plans and/or the applications the Group
filed or will file, will be authorized without there being a substantial change in the
number of residential units that can be built on the property, in the mix and/or the
planning versus the amount, mix and planning that the Group expected. (3) There
will not be a substantial change in the fees, levies and/or taxes applicable to the
parties of the real estate transactions. (4) The construction costs as well as other
sales costs will be in line with the Group's assessments. It is [hereby] clarified,
that in the event that there is a substantial change in one or more of the aforesaid
factors, there could be a substantial change in the number of units and/or the costs
or the Group’s expected [completion] times.
F.
Inventory of properties
The Group holds ownership to 18 properties in Miami, Florida for possible
development or sale. These properties yield a small income for the Group from
leasing for parking lots, operated by third parties on some areas of these
properties. The Group continuously evaluates the opportunities available to it for
development and sale for each of the properties.
1.8.3.4
Clients
The target markets for residential ventures that the Group is developing are
usually clients from the upper middle class, according to the project. In some
cases, the projects include a limited number of more modestly priced units, which
are attractive for the less well-off clientele.
1.8.3.5
Marketing
The Group’s projects are sold through independent real estate agents who deal in
residential and commercial properties, or in some cases, through the real estate
agents or sales representatives of the Group's project development partner.
Independent brokers and rental agents as well as the employees of some of the
projects’ partners, also assist the Group. The real estate agents are chosen
according to their experience in the local market and the type of project being
marketed.
84
1.8.3.6
Backlog of orders
By accepted accounting rules, Accounts Receivable from engaging in the sale of
apartments listed in the Company's books after the date of engagement are entered
according to the stage of execution that the project is at. See also Paragraph
1.8.1.5 above. . On December 31, 2005, December 31, 2006, the balance of
Receivables from apartment sales in the USA that were yet to credited to the
Profit and Loss report was about NIS 1,817 million, about NIS 2,302 million,
respectively.
1.8.3.7
Competition
The Group confronts noticeable competition in the USA from entrepreneurs and
other property owners in each of the markets that it is active in. The Group
competes in property purchases, setting up development partnerships with
attractive partners, obtaining financing and in property sales and rentals. The
Group seeks to isolate itself from its competitors by appealing to a wider target
clientele than do the competitors as well as to offer properties designed for the
Group’s targeted clientele.
In this regard, it is to be noted that many of the Group’s competitors in the USA
are large bodies active in the local market over a long period and are well
connected in this market, much experienced in the development of projects of a
specific types; their brand names are well known, in any case, in comparison to
the Group. In addition, some of the Group’s competitors have different targeted
investments and are better able to take on risks upon themselves or they operate
on the basis of different risk estimates concerning certain projects, which enable
them to consider a number of development opportunities than the Group would
and to pay for those opportunities with larger sums of money than what the Group
would be willing to pay.
1.8.3.8
Human Capital
The Group’s real estate business in the USA in carried out by three employees
who reside in New York. These employees, with assistance from the Company's
management, coordinate the Group’s operations with its partners in development
ventures and supervise the projects that the Group is developing in the USA.
1.8.3.9
Financing
The Group’s real estate operations in the USA are financed through funds from
the Group’s Corporations and its partners (as an investment and/or as a
shareholders' loan as well as credit from third parties. The financing that the
Group receives from banking factors is received, in general, in two stages, as
85
follows: At the first stage, the Group finances between 75% and 80% of the
property’s purchase cost through loans for that purpose. At the second stage, the
aforesaid purchase loans are exchanged for loans to finance 80% to 95% of the
project’s entire cost. The loans are, in general, for a period of 24 to 36 months and
secured by the Group’s and its venture partners’ sureties (together and
individually).
1.8.3.10
Limitations and supervision
A.
According to federal, state and local laws and regulations, concerning the
conservation of environmental issues, the Group’s relevant corporations may be
held liable for the identification and repair of damages and contamination of
properties over which the Group holds and/or held ownership. The aforesaid stems
from the fact that the property’s proprietors, and operators (including residents)
may be required to locate the presence of dangerous or poisonous materials, fuelproduct leakages or danger of leakages in the said property, to clean them, or treat
them. It is possible to impose upon them responsibility towards the governmental
bodies or third parties for property damage, investigation costs, cleaning up and
follow-up expenses that these parties expended concerning the contamination that
actually took place or is expected to. In addition, even the previous property
owner or operator may be held accountable in a case where the reason for causing
the contamination or damage took place at the time he was the property owner or
operator. The aforesaid laws generally impose the responsibility to clean as well
as responsibility without regard as to who is to blame, or whether the owners or
operator know or did not know of the contaminants’ presence, or whether they
caused or did not cause it. The responsibility under these laws may be altogether
or individually to the total sum of the investigation costs, cleaning and follow up
costs that were expended or are needed to be expended because of the required
operations that need to be carried out. However, the party upon whom the
responsibility rests, together or individually is entitled to the participation of the
other responsible parties who can be identified and are capable of paying their
proper share of the costs. These costs can be substantial and in sum cases be more
than the property’s value. The presence of a contaminating substance or neglecting
to act in the proper manner to put right the contaminated property, can impair the
Group’s ability to sell or lease the property or take out loans while using the
property as collateral and so harm its investment in the property.
It is to be noted, in addition, that some of the Group’s projects include old
86
buildings, which may have materials containing asbestos. The Group’s
corporations holding such buildings are required to notify the residents of the
presence of such materials containing asbestos and assure them that they will
receive the required treatment. In addition, these buildings could contain
additional problems, including leaded paints, mold and so forth that require
treatment by the proprietors. The need to treat these problems can also
substantially affect the advisability of investing in the project.
B.
The law on the matter of handicapped American citizens Every property must meet the instructions of Article Three of The Law On The
Matter Of Handicapped American Citizens (ADA) in the event that the property is
considered “public residential buildings” as defined in this law. This law may
require the removal of built obstacles that prevent access to certain public areas by
handicapped people on the Group's properties where it is possible to remove them
without difficulty. Disobeying the law‘s instructions on the matter of handicapped
American citizens could cause the imposition of penalties or the awarding of
damages to private plaintiffs. The obligation to assure accessibility to residential
buildings is a continuous one.
1.8.3.11
Cooperative agreements
The Group engages with its project partners through agreements, which arrange
the relationship between the parties, including, amongst others, the following
topics (all or in part): Project financing, decision-making process in the partner’s
corporation, constraints on the project guarantees and so forth.
For additional details concerning the partnership between the Group and Mr.
Boymelgreen and corporations under his ownership, see paragraph 1.27.1 below.
1.8.3.12
Business strategy
The Group’s business strategy for its real estate business in the USA, is in the
main as follows: (A) Investment in areas that were until recently, characterized as
underdeveloped but today gained renewed popularity, such as Los Angeles’
downtown area, Miami’s lower city and Lower Manhattan. (B) Investment in
areas that the American administration is interested in their renewed development
through subsidies or other benefits, such as, Lower Manhattan after the Twin
Tower disaster, the coastal area of the Gulf that was harshly struck by Hurricane
Katrina. (C) Investment in areas with the types of immigration of a well-off
population, such as in Miami and Las Vegas. (D) Project branding through
alliances with renowned architects and designers. (E) Developing and providing
luxury properties designated for the upper class of clientele.
87
1.8.3.13
Events after the closing balance date
Through its wholly owned subsidiary, the Group engaged in an agreement
concerning the purchase of 50% of the rights in the "Apthorp" Building which is a
residential building on the Upper West Side of Manhattan, New York (from
hereon: “The Property”) (from hereon in this paragraph: “The Transaction”).
Below are the transaction's main points:
A foreign corporation, wholly owned by a number of local factors (from hereon in
this paragraph: “The Property Company”), engaged in an agreement concerning
the purchase of the property in exchange of USD 426 million (from hereon in this
paragraph:
“The Purchase Agreement”). The subsidiary engaged in an
agreement whereby it will purchase 50% of the rights in the corporations which
hold (indirectly) collectively, all the rights to the Property Company. The total
purchase price for the property is USD 426 million beside fees, levies, taxes and
other transaction costs totaling some USD 30 million. A sum of USD 114 million
of the aforesaid entire amount will be placed as an equity investment by the
property’s company. The remaining sum will covered by loans from banking
corporations as detailed below. The subsidiary has undertaken to place 50% of the
necessary amount as an equity investment as aforesaid. That is, a sum of about
USD 57 million. In addition, the subsidiary has undertaken to place 50% of a sum
of up to USD 55 million (that is, up to USD 27.5 million) for financing
operational costs and/or the Property Company’s future financing costs. Also,
50% of the amount of USD 10 million (that is, up to USD 5 million) to finance
additional construction on the property.
The property is a historic building that contains, amongst others, 163 rental
apartments (of them, some 100 are rent-controlled, at the time of the periodic
report) with a total area of about 32,000 sq.m., about 2,600 sq.m. commercial
areas entirely leased, and about 1,250 sq.m. of parking area. The property has
additional building rights that are unexploited, an area of 6,000 sq.m.. At the time
of the periodic report, the scope of rental income from the property totaled
approximately USD 11.7 million annually.
It is the intention of the Property Company to renovate the building and turn it into
a luxury apartment building to be sold. It is also its intention to receive the
authorizations to expand the property in accordance to the aforesaid building
rights. At the time of the periodic report, by the Property Company’s assessment,
the development and renovation period and apartment sales will take about five
years. At this stage, the scope of the entire additional investment is estimated to be
88
about USD 95 million (not including the investments in the additional building
rights). In light of the fact that the building is a historic one, the Property
Company could receive a significant tax benefit in lieu of certain sums invested by
it in the property.
To finance the transaction, the Property Company engaged in financing
agreements with foreign banks. According to these agreements, the foreign banks
will provide loans to the Property Company in order to provide the remaining
required for purchasing the property and finance the transaction costs (beyond the
equity investment as aforesaid), a sum of USD 343 million. In addition, the banks
undertook to provide a further sum of USD 177 million in the future, which will
mainly serve to cover financing costs, and for the property’s development and
renovation.
Of the aforesaid sum of USD 343 million: One, with a scope of USD 218 million,
will be for a period of from four to six years and carry an annual interest rate of
Libor (for a period of 30 days) plus 1.85%. The loan is secured by various
securities acceptable in such a transaction, including a lien on the property.
Additional loans with a scope of USD 125 (that constitutes a mezzanine loan),
will be for a period of from four to six years and carry an annual interest rate of
Libor (for a period of 30 days) plus 6.6%. The loan is secured by various
securities acceptable in such a transaction, including a lien on the Property
Company’s shares.
The subsidiary is not a guarantor to the banks for the Property Company’s loan
repayment. The subsidiary has undertaken to indemnify it for 50% of any amount
that it will be required to pay the banks because of realization of its warranty as
aforesaid (a similar undertaking is expected to be given by each of the other
Property Company’s shareholders in proportion to their holdings in the Property
Company). The subsidiary’s indemnity undertaking will be limited to its equity
investment, that is, up to a sum of USD 57 million for the first stage and for an
additional sum of USD 32.5 million.
The above information, as much as it touches on the property’s development and
renovation period and the scope of the required investment as aforesaid,
constitutes future-looking information, based upon the Property Company’s
assessments. It is possible that they will not be realized, amongst others, due to
delays in receiving the relevant authorizations, unexpected delays in the
renovation work’s progress, changes in market conditions and/or other reasons,
which to the best of the company’s knowledge, the Property Company’s
89
knowledge at the time of the periodic report.
1.8.3.14
Risk factors
The Group’s activities in the USA are exposed, amongst others, to risk factors as
follows: (A) The partnership with Mr. Boymelgreen constitutes a main factor of
the Group’s operation. The partnership, as aforesaid, is to terminate in April 2007.
At this stage, the measure of its influence upon the Group’s present and future
operations cannot be evaluated. (B) Some of the Group’s projects are dependent
upon receiving required authorizations from the administrative authorities and/or
the planning authorities and/or other conditions and accordingly, there is no surety
that they can be completed. (C) The Group depends upon its partners for project
development and/or other third parties. (D) Accelerated development in Miami’s
downtown area could harm the profitability of the Group’s other projects in the
area. (E) An unexpected rise in development costs or construction could harm the
project’s profitability. (F) Events of force majeure, terrorist acts or natural
disasters in those areas the Group is operating in, including hurricanes in Miami,
Earthquakes in California could cause a decrease in demand and/or delays in
completing projects, and so forth, harming the Group’s profitability. (G) Exposure
to US market conditions in general and in the markets that the Group operates in,
in particular. (H) Difficulties in negotiations with tenants in properties that need to
be vacated in order to erect the project, could hinder project execution and/or harm
its profitability. (I) Suits and/or litigation concerning a specific project could delay
its execution and/or harm its profitability. (J) The Group’s ability to enlarge the
scope of its income is dependent, amongst others, upon its ability to locate new
opportunities and to develop them into an agreement.
1.8.4
Real estate development in Russia and the Commonwealth of Independent
States
1.8.4.1
General information on segment activity
A.
The Group is active in the Russian real estate market since 2000. The Company is
working to issue [securities to the public of] the corporation that organizes the
Group’s operations in Russia. See Paragraph 1.31.1 below.
B.
The Company believes that the Russian market, as a rule, presents a strong
demand for residential and commercial real estate by both the lessees as well as
the potential owners. For an economic survey of Russia, see paragraph 1.9.3.2
below. Below is a survey of the residential real estate market in Russia.
C.
General
The residential real estate market has a growing approach for attractive financing
90
on the individual level driven largely by the introduction of mortgages coupled
with higher free personal income as well as more capital available for property
purchases by the growing middle class.
D.
The urban residential real estate market in Moscow
The Group’s focus on the urban residential real estate market is mostly in the midprice range (“Business class” suites and apartment buildings) and in the premium
market (luxury class apartment buildings). The growth in real income and the
widening of western businesses have brought about a significant rise in demand
for residential space, especially since Moscow residents seek to improve their
living conditions. The demand for apartments in new buildings in central Moscow
continues to be strong; both by the owners as well as investors, with apartments in
well-sited projects expected to be sold even before the project is completed. The
supply of residential properties in Russia is characterized by a small supply and an
aging inventory.
E.
The residential real estate market in suburban Moscow
The residential real estate market in suburban Moscow is another important one
for the Group’s business. Similar to the urban residential real estate market in
Moscow itself, the growth in real income has brought about a significant rise in
demand for residential space, especially since Moscow residents seek to improve
their living conditions and live in a cleaner environment. These properties are
usually near closed neighborhoods with single and/or multiple family houses.
Since 2000, the supply and demand for premium residential space in various
suburban areas of Moscow has risen significantly. The price for these properties is
very often dependent upon the following factors: Proximity to Moscow, ease of
access to the city, environmental conditions, availability of public infrastructure
[and] services, security arrangements, construction quality, documentation quality
and the certitude of the property rights.
1.8.4.2
Details concerning the Group’s residential projects
The projects that the Group is planning to build are intended mostly for mixed use
and/or for commercial use. Some of them include residential units for sale. The
table below presents the Group’s projects that include amongst others, residential
construction:
Site
Tverskaya
Zastava
Project
Plaza 1
Location
Project Status
Central Moscow – across
form the Tverskaya Zastava
shopping center planned
Initial planning
stage (Concept)
Area in SQ.M.
Designated for
Residential Use
12,989
91
Tverskaya
Zastava
Ozerkovsky
Four
Winds II
Stage II
Ozerkovsky
Stage III
Otradnoye
--
Perm
--
1.8.4.3
1.9
underneath Tverskaya
Zastava Square
Central Moscow – near the
(Boutirsky subway station
Central Moscow – On 26
Ozerkovsky Embankment
and 32 Bolshoi Starsky
Ozerkovsky
Odinsovo, 8 km West of the
Moscow Ring Road
Perm City
In construction
17,874
In construction
17,983
Planning
2,816
Planning
450,100
First planning
stage (Concept)
122,232
For further details concerning the Group’s projects as well as the characteristics of
the Group's activities in Russia, see paragraph 1.9.3 below.
The rental properties segment
In this segment, the Group is engaged in development, construction, rental and
operation of buildings, primarily zoned for commercial, industrial and offices uses.
Following are details on this segment, separately for the Group's operations in Israel
and overseas (excluding the US and CIS), on one hand, and for the Group's
operations in the US and FSU countries, on the other.
1.9.1
Rental properties in Israel and overseas (excluding the US and CIS)
The Group's operations in rental properties in Israel is largely concentrated through
the Company's subsidiary, Africa Properties1 which is engaged in the development,
construction, rental and operation of buildings (mainly zoned for industrial, office
and commercial uses). As such the Group own real estate properties2 that are held
and developed by the Group directly, as well as holdings in companies that hold,
either directly and/or through subsidiaries, real estate properties and engaged in the
development, construction, rental and operation of real estate properties.
For details on an agreement delineating rental properties operations, see paragraph
1.1.6.3 above. Following is a description of the Group's operations in the rental
properties segment in in Israel and overseas (excluding the US and CIS).3
1.9.1.1
General information
1
Africa Properties made an initial offering of its shares to the public pursuant to a prospectus dated
September 2004. Africa Properties' securities were listed for trade on the TASE in October 2004. As at
the date of the periodic report, the Company holds 69.21% of the share capital and voting rights in
Africa Properties.
2
The Group's rights in assets (whether registered or no yet registered) are ownership rights and/or
leasehold rights and/or contractual or other rights, as the case may be.
3
This paragraph includes forward-looking information based on the Company's assessments of the
state of the market and the factors influencing the market, based on, among other things, economic
analyses and studies of changes in the real estate sector in past years.
92
A.
Structure of the segment and changes therein
The rental properties sector includes development, planning, execution, marketing
and operation of properties designated for rental. And mainly zoned for industrial,
office and commercial uses.
B.
Legislative restrictions, subsidiary legislation and special constraints applying
to the rental properties industry
This segment is many regulated by land laws and planning and building laws.
Furthermore, operations in this segment are affected by variable municipal taxation,
legislation pertaining to business licensing, land taxation and municipal taxation,
including purchase and sales taxes and betterment levies imposed on transactions in
real estate properties.
C.
Changes in the scope of operations in the segment and the profitability thereof
Israel
(1)
According to a review of commercial and office building and rental properties in
Israel, conducted by Maalot Israel Security Rating Company (hereinafter, "Maalot")
dated March 2006 (hereinafter, "the Maalot Review"), since the end of the 1990s
and until approximately 2003, the real estate sector underwent a process of
contraction, in contrast to the expansion that had characterized the early and mid1990s, which was reflected, among other things, in a decline in the scope of
monetary investments, scope of areas, construction processes and scope of new
construction starts. In this period, real estate companies mainly reduced their
operations and investments in the local market and directed extensive resources to
the acquisition of properties overseas.
(2)
In 2003, buds of recovery in the real estate sector became apparent and indications
were also evident in the commercial real estate market. This trend became stronger
in early 2005. The improvement in the real estate market stems from several
parameters including growth of the Israel economy, continued demands in the rental
properties market which led to an increase in real estate prices, and others.
As noted, since 2005, a considerable improvement in the commercial real estate
sector in Israel is evident, as a result of, among other things, an improvement in
economic growth indices and a decline in interest rates. Furthermore, in the said
period, a recovery was evident in the sales turnover of commercial centers,
occupancy rates of offices improved and rentals also increased compared to the
period between 2002-2004.
(3)
From late 2004, the number of share and bond issued executed by real estate
93
companies in Israel increased. These issues allowed real estate companies to expand
their capital base for new investments, and improved these companies' exposure to
the business market and the capital market.
(4)
In early 2006, the REIT funds era commenced in Israel. According to the estimates
of the Company's management, this development is expected to impact an inflow of
funds to the rental real estate sector and increase the marketability of rental
properties. As at the date of the periodic report, the Company's management
believes that several regulatory issues are the cause that this impact is not
experienced full. Resolution of these issues, according to the Company's estimates,
may cause a rise in rental property prices and a corresponding decline in yields
demanded by investors.
(5)
According to Maalot, as presented in the Maalot Review, commercial real estate
segments are ordered as follows, by risk: malls, power centers, industrial and
storage buildings, office and hi-tech buildings, and speculative development
initiatives (no pre-leased areas) for commercial real estate of all types.
Eastern and Central Europe (CEE)
(6)
Czech Republic - The Czech Republic, with a population of 10.3 million, is
considered one of the most developed and stable countries in the CEE region. GDP
is the highest in the region and the Czech Republic is expected to adopt the Euro
currency in 2010. Although inflation continues to be relatively low, it rose slightly
in 2006 as a result of a rise in salaries and demand. Economic growth in the Czech
Republic stems, among other things, from an increase in foreign investments in the
country. The residential sector in the Czech republic has become stronger in the last
4 years.
In the area of malls and commercial centers, a saturation is experienced in Prague,
but in contrast, an upturn in this sector is indicated in the Republic's peripheral
cities whose population exceeds 100 thousand.
(7)
Serbia – According to estimates of the Company's management, the Serbian
economy is in the process of recovery which has characterized the country since the
end of the civil war. This recovery is reflected in an increase in the annual growth
rate of the GNP compared to other CEE countries. In recent years, the office rental
market in Belgrade is characterized by a transition from offices located in
residential buildings, to modern office buildings that are located in the city center.
The Company's management estimates that there is a considerable shortage of
modern office areas.
(8)
Romania – Romania is the second largest country in the CEE region with a
94
population of 22 million. In recent years, the Romanian economy has been
characterized by considerable growth and energetic demand, especially in the area
of private consumption, and in view of Romania's entry into the European Union in
early 2007. Since 2006, an increase in the extent of foreign investments in Romania
has been felt, although there is a shortage on commercial and office areas.
(9)
Bulgaria – In recent years, the Bulgarian economy has been characterized by
considerable growth and lively demands, especially in the area of private
consumption and in view of Bulgaria's entry into the European Union in early 2007.
Furthermore, it should be noted that to the best knowledge of the Company's
management, there is a shortage in commercial and offices areas which is reflected
in the number of ventures pertaining to the construction of malls and office
buildings in Sophia, the capital, and in other medium-sized cities.
General
(10)
In 2008, the Israeli accounting standard that adopts IAS will come into effect;
pursuant to this standard, real estate properties will be evaluated by their fair value.
Transition to the new standard is expected, according to the estimates of the
Company's management, to increase the value of balance sheet assets, as well as the
companies' shareholders' equity, and is expected to decrease the capital multipliers
of most rental property companies. For additional information see Note 1.38(1) to
the Company's financial statements as at December 31, 2006.
D.
Critical success factors in the area of activity
(1)
General – According to the estimates of the Company's management, the critical
success factors in this segment are primarily know-how and experience in
identifying and exploiting business opportunities, identifying properties, planning,
construction, marketing and operation of properties; the location of properties and
access thereto; and financial strength.
(2)
The Maalot Review presents Maalot's assessments pertaining to the major factors
that affect demand and occupancy rates of office buildings in Israel, and the major
factors that affect the success of shopping centers in Israel, as follows:
(a)
Office buildings – property location; transportation access (including public
transportation); quality of construction; parking in the building or in adjacent
facilities; standard of maintenance and planning and ability to support current and
future technological and electrical requirements; gross-net ratios; age of building;
exterior and interior appearance of the property; rental levels; quality and stability
of major tenants; rental term; standard of maintenance services; municipal taxes;
community services; business environment (including competition in the vicinity
95
by building type); historical and current occupancy trends in the property and their
implications on future performance; proximity to target audience, anchors and
sources of labor; ancillary services.
(b)
Commercial centers – property location; proximity to target audience;
transportation access (including public transportation); access to main highways;
parking facilities; efficient division of space in the commercial centers; supply of
commercial centers in the vicinity; availability (hours dan days of business);
positioning and appropriateness for target audience; diverse mix of stores;
entertainment and leisure facilities as centers of attraction for customers.
E.
In this segment, there are no formal entry or exit barriers. However, in view of the
special character of this segment, financial strength and access to financing are
essential. Exiting this area has limited flexibility, since an extended period may be
required to realize an investment since this is dependent, among other things, on the
location of the properties, their physical condition and the state of the market. In
addition, disposal of properties involves various costs, including real estate taxes.
F.
Competition in the rental properties sector
According to the estimates of the Company's management, the rental properties
sector is a competitive industry that is characterized by a large number of actors.
According to the estimates of the Company's management, competition in the
construction and operation of rental properties is affected by the geographical
location of the property and its quality. In proximity to the majority of the Group's
properties are similar properties that compete with the Group's properties.
Furthermore, competition is based on rentals, the physical state of the buildings, the
standard of finishing, and the standard of management services given to tenants.
1.9.1.2
A.
The Group’s products in this segment are primarily office, industrial and
commercial areas designated for leasing.
B.
The Group's operations in this segment are concentrated primarily by a Company
subsidiary, Africa Properties (including the subsidiaries of Africa Properties).1 The
Group's operations in this segment are mainly development, planning, construction
and operation of rental properties, primarily buildings for industrial, office or
commercial uses.
1
Pursuant to the Company's decision to concentrate its real estate property operations in Israel within
Africa Properties, an agreement between the Company and Africa Properties was signed on December
31, 2003, according to which the Company transferred rental properties and shares in companies owned
said real estate properties, that had been held by the Company, to Africa Properties, with several
exceptions.
96
C.
The Group has real estate properties that are held and developed directly by the
Group, as well as holdings in companies that hold and engage in, either directly
and/or through subsidiaries, the development and operation of real estate properties.
D.
The agreements for the acquisition of lands (whether built up or not)
designated, either in part or in entirety, for leasing, generally contain the
following material terms (either in part or in entirety):
(1)
The Group pays the consideration of the sale (subject to conditions precedent, if
any), in one or more of the following methods (including a combination of
methods):
(a)
Cash transaction – the consideration is based on the price stated in the agreement
and/or according to the price setting mechanism defined in the agreement.
(b)
Combination transaction – the conventional outline used in combination
transactions is the acquisition of a non-specific share in the land, in exchange for
construction services to the relevant project by the Group. Combination agreements
defined, among other things, provisions regarding the division of taxes, mandatory
payments and other expenses between the parties that are applicable in respect of
the relevant project or in respect of the land.
(2)
Furthermore, the Group constructs several of the rental properties that it owns
according to the BOT (Build Operate Transfer) and/or PFI (Private Finance
Initiative) method. In these methods, the developer (who is a private entity) receives
from the client (generally the state or semi-public entities) a concession to operate
the property and the right to collect payment in respect of operation of said property
for a limited period (generally, 25 years), as consideration for the construction of
the property by the concessionaire and return to the ownership of the client and/or
any party acting on its behalf, at the end of the BOT period; the project is generally
financed partially by limited recourse banking finance.
The provisions that generally appear in agreements pertaining to projects of this
type are: (a) the nature of the concession and exclusivity to the concessionaire in
operating the project; (b) the concession period and provisions pertaining to an
extension of the concession period, if such extension is possible; (c) the manner in
which the project is constructed at the expense and responsibility of the
concessionaire; (d) the obligations and rights of the concessionaire; (e) the
obligations and rights of the client, including assurance of a minimum level of
revenues for the concessionaire; (f) method of project operations; (g) provisions
regarding the insurance coverage of the concessionaire; (h) provisions regarding the
termination of the concession agreement in respect of a breach by the
97
concessionaire.
As at the date of the periodic report, in this segment, the Group operates the student
dormitory project at Mt. Scopus, Jerusalem.
(3)
In cases where the Group has partners in real estate (whether by force of a joint
acquisition of the real estate or by force of an acquisition of a share of the rights in
the land), the Group generally operates under a joint transaction or joint company in
order to regulate the relationship between the parties, including:
(a)
The transaction is managed by an administration and/or steering committee
comprising representatives of the parties; resolutions are adopted pursuant to a
defined mechanism (generally, by unanimous vote);
(b)
Provisions prohibiting
or restricting the assignment and/or transfer and/or
encumbrance of the rights by the parties and/or first right of refusal;
(c)
Provisions pertaining to the Parties' liability to finance the projects, and the
sanctions in respect of default, etc;
(d)
Provisions pertaining to the selection of the principal contractor or any contractor
and/or any third party involved in project planning and execution;
(e)
Provisions pertaining to the imposition of tasks on any partner or pertaining to the
provision of services by any partner for the benefit of the project, and occasionally,
provisions pertaining to the payment of management fees in respect of such
services;
(f)
Provisions pertaining to the provision of collateral by the partners in favor of a bank
or a financing institution.
(4)
To finance the project, the Group occasionally pledges its share in the relevant
project to the financing entity, including the Group's right to receive rentals and
revenues from the relevant project, and the Group's rights vis-à-vis the seller of the
said project, and the Group occasionally enters into construction loan agreements
with banks.
Construction loans are performed in the "closed project" method, using designated
bank accounts from which all project expenses are paid. As part of the construction
loan, the bank provides credit to finance the acquisition of the land, the taxes in
respect of the transaction, and the cost of construction. In addition, the bank
provides the guarantees required by the borrower to execute the project. Said credit
is generally granted against a pledge on the acquired rights in the real estate, and a
pledge on all the Group's remaining rights in the relevant project. Furthermore,
credit granted for the execution of a project is generally contingent upon meeting
budgetary targets, revenue targets, construction schedules and marketing schedules
98
for the project. Upon failure to meet the targets, the bank may intervene in the
project management to the extent of assuming actual possession of the project
and/or imposing an immediate demand for repayment. Total shareholders' equity
required in the framework of construction loans generally ranges between 20%-30%
of total anticipated project costs. Occasionally, additional securities are provided to
ensure compliance with budgetary targets and other targets.
Upon completion of the project, the credit facility is generally converted into a
long-term loan (5-15 years). In construction loans overseas, credit is generally
granted as non-recourse loans.
(5)
Occasionally, purchase agreements contain conditions that award the right of
termination in the event of a failure to meet the schedules defined in the purchase
agreement for the completion of the construction and lease of parts of the project.
(6)
Occasionally, additional aspects of the agreements are conditional upon an
undertaking by the Group, singly or with partners, to modify or take steps to modify
the zoning of the relevant area.
E.
The Group's commitments in rental agreements pertaining to properties it
owns or leases generally contain the following provisions:
(1)
In addition to rentals, lessees pay maintenance fees to the Group which are defined
by the Group, considering, among other things, the leased areas, based on
maintenance costs with the additional of a margin.
(2)
Rentals and maintenance fees are generally paid on a monthly or quarterly basis.
(3)
Furthermore, the Group generally charges lessees a relative share in the cost of the
insurance for the leased buildings.
(4)
Where lessees are granted an option to extend the rental period, agreements
generally include a singular increase in the rentals in the extension period.
(5)
In various buildings and the adjacent open areas thereto, management and
maintenance services are provided by management companies (whether by external
management companies or by the Group).
(6)
Various securities are submitted to secure the obligations of the lessees, such as
bank guarantees on an amount equal to rentals and management fees in respect of
several months (pursuant to an agreement between the Company and each lessee),
personal bonds, promissory notes, deposits and personal checks.
F.
Rental agreements to which the Group is a party, pertaining areas located in
malls and/or other commercial areas, contain the following provisions, in
addition to those stated in paragraph 1.9.1.2. (e) above:
(1)
Commercial areas are leased for aims and terms that are defined in the rental
99
agreements.
(2)
Rental terms are defined pursuant to negotiations with individual lessees.
(3)
Basic rentals are computed according to a fee per sq.m. for the total gross area
leased to the lessee (total gross leased area includes the actual leased area – "net
area" – and, in addition, a specific percentage of the net leased area, in respect of
the lessee's use of the common public areas in the project.
(4)
Rentals are generally computed according to the higher of the fixed periodic rentals
(basic rentals) and a specific percentage of the revenues from the lessee's business
in the leased premises, if the lessee operates a business that generates revenues
(generally, stores); the basic period for calculating the differences generally ranges
between 1-6 months. Rentals of premises that are defined as office or industrial
areas are generally fixed rentals.
(5)
To maintain the proper mix of leased areas, the Group tends to enter into rental
agreements, among other things, with lessees that constitute "traffic-attracting"
anchors in the commercial areas, such as supermarkets, cinemas, and large fashion
chains. The rentals charged to anchor lessees are generally lower than the rentals
charged to other "ordinary" store lessees (stores that are not anchors), and the rental
terms are generally longer.
G.
Definitions and explanations
In the following tables [the following terms shall have the meanings alongside
them] unless stated otherwise:
"Share of holding" – this means the share held by Africa Properties (at final
concatenation) , including by a trustee on behalf of a financing entity.
"Area for rent in sq.m." - pertaining to properties that are effectively leased, this
means the total area that can be rented in each property, by rental agreement, and
pertaining to properties in progress and in the planning stage and that are designated
for rent.
"Cost" - this means the cost of the building and the land after deducting grants,
including financing costs and general and administrative costs capitalized to
buildings in the construction stage.
"Depreciated cost" – cost net of grants and depreciation
"Income from leasing and operation of properties" – not including income from
management fees.
"Average rentals" – average rentals are computed on the basis of average rentals of
leased areas (controlling for unoccupied areas).
"Occupancy rate" – it should be noted that the occupancy rate did not change
100
substantially during any year appearing in the table.
It is hereby clarified that the information in the following tables referring to the
execution of projects the construction of which has not commenced, plans that have
not yet been approved, additional estimated
project costs, and the anticipated
completion date – constitute forward-looking information. The data in the tables are
based, among other things, on the following assumptions: (a): the Group will decide
to utilize unutilized building rights; (b) pursuant to the Group's expectations, all
additional owners of rights in the land will join the planned project; (c) the plans
and/or applications that the Group has submitted or will submit, will be approved
and come into effect without a material change in the permitted construction areas,
the mix of areas and/or the plan compared to the quantity, mix and plan anticipated
by the Group; (d) no material changes will occur in fees, levies and/or taxes
applicable to the parties to the real estate transactions; (e) construction costs as well
as remaining sales costs will be based on the Group's estimates. It is clarified that if
a material change occurs in one or more of the above factors, a material change in
the areas permitted for construction/rental and/or in the costs or the date that the
Group anticipates.
101
H.
Rental assets in planning and under construction (including land reserves)
Following are details on the Group's buildings for rent (not including those of consolidated companies) that are in the planning and
construction stages.1
Israel (held by Africa Properties and its subsidiaries)
Name of project\property
Percentage
holding
Area for rent,
Net, sq. m.\
(housing unit)
Stage of
completion as
at 31/12/06
Cost (including land) outstanding as at 31\12\06
(NIS thousands)
2004
2005
2006
Total
anticipated
Cost (NIS
thousands)
Anticipated
date
of completion
Student housing, Jerusalem
50%
300 beds2 Under
construction
(3 )
(4) As to total cost of
the asset, see
paragraph 1.9.1.2.(i)
below
19,407 Second half
of 2007
Migdal HaKiryah, Stage 2
(parking), Tel-Aviv
50%
1,050 Under
parking construction
spaces 7
(5)
(6) As to total cost of
the asset, see
paragraph 1.9.1.2.(i)
below
37,396 First half
of 2008
Africa Israel Tower
(additional floors), Tel Aviv
Concord Towers (Stage 2),
Bnei Brak
66.66%
Approx. Planning
4,000
11,090
11,090
11,090
- Cannot be
estimated
63%
Approx. Planning
12,982 sq. m.
46,352
46,352
46,352
- Cannot be
estimated
Percentage
holding
Area for rent,
Net, sq. m.\
(housing unit)
Stage of
completion as
at 31/12/06
(NIS thousands)
2004
2005
2006
Total
anticipated
Cost (NIS
thousands)
Anticipated
date
of completion
1
The financial data are presented at Africa Properties' relative share in the projects. Notwithstanding the above, data referring to assets of fully consolidated companies are
presented in entirety (100%). In the above table, an asterisk appears in the "Project/asset name" column to mark assets of the wholly consolidated companies.
2
There are a total of 1.621 beds for rental in the student housing project, of which 300 beds are in the planning and construction stage.
3
Total asset cost as at December 31, 2004 was NIS 4,269 thousands
4
Total asset cost as at December 31, 2005 was NIS 61,707 thousands
5
Total asset cost (including Stage 1 and 2) as at December 31, 2004 was NIS 300,414 thousands.
6
Total asset cost (including Stage 1 and 2) as at December 31, 2005 was NIS 321,760 thousands.
7
In the Migdal HaKiryah, Stage 2 project, there is a total of 24,000 sq.m. for rent, and an additional 1050 parking spaces covering an area of 32,000 sq.m. in the planning and
construction stage.
102
Science Park, Ness Ziona
100%
Plot adjoining the Science
Park, Ness Ziona
100%
Global Park, Lod*
Ragam (Ramleh, Gezer,
Modi'in), Netser Sereni
Land in Yavneh
1
100%1
25%
100%
Approx. Planning
4,590 sq. m
-
-
-
- Cannot be
estimated
Approx.
75,758 sq. m.
7,870
7,870
7,870
- Cannot be
estimated
No building Planning
rights
Approx.
Planning
32,500 sq.m.
3,029
3,029
3,029
408
444
504
- Cannot be
estimated
Cannot be
estimated
-
-
7,066
Approx.
22,600 sq.m.
Planning
-
Cannot be
estimated
In April 2006, the interest increased from 80% to 100%.
103
Israel (held by the Company and its subsidiaries, excluding Africa Properties)
Area for
rent, net
Stage of
Percentage
holding
sq. m.\
(housing unit)
completion as
at 31/12/06
"Palace of the
Annunciation"1 Nazareth
App. 50%
-
-
1,558
1,558
Commercial Center, 2
Nazereth
App. 67%
App.
16,500 sq. m.
Earthworks
7,500
7,500
Total
anticipated
cost
(NIS
thousands)
Anticipated
date
of completion
1,558
Not yet
known
Cannot be
estimated
9,112
70,000
2009
Cost (including land) outstanding as at
December 31, 2006
(NIS thousands)
2004
2005
2006
1
The transaction is contingent, and the conditions precedent for its closing have not yet been satisfied.
The Company holds 50% of the issued share capital of the Palace of Annunciation, which is entitled to register as the lessor of 72% of a real estate asset in Nazareth,
designated for the construction of a shopping center; the original lessor holds rights to lease 28% of the land. According to a signed sales agreement, after construction is
completed, the parties will split their holdings in the building such that specific sections are attributed to the parties, pro rata to their holdings in the project. The Archbishop's
Palace transferred to another company, in whose issued share capital the Palace of Annunciaton holds 63%, the entire rights to receive specific units attributed thereto after
the completion of the construction, in the future.
2
104
Outside Israel (excluding USA and Russia) – held by Africa Properties and its subsidiaries
Area for
rent, net
Percentage
holding
Voltava Park, Prague, Czech
Republic (stage A –
offices)1(*)
sq. m.\
(housing unit)
Stage of
completion as
at 31/12/06
(NIS thousands)
2005
2006
Palace Pardubice, Czech
Republic (Stage A – Mall)
-
34,460
100 housing Initial
units planning
120 rooms Initial
planning
Area for
Expected date
of completion
36,250
130,205 Second half
of 2009
18,000 Under
construction
100%
Total
anticipated
cost
(NIS
thousands)
127,979 Second half
of 2007
26,5004 Planning
Voltava Park, Prague, Czech
Republic (stage B –
offices)3(*)
Republic (Stage C – hotel or
offices)6
2004
16,000 Under
construction
50%2
Republic (Stage B –
Housing)5
246,448 First half of
2008
2,386
4,335
14,974
38,950 Second half
of 2009
Cannot be
44,514 estimated
Total
1
In December 2005, the Group (which until then had held 100% in this corporation) sold 50% of the rights to a third party. For additional details of the sale, see paragraph
1.9.1.2 (j).
2
This project is held through a wholly consolidated company.
3
In December 2005, the Group (which until then had held 100% in this corporation) sold 50% of the rights to a third party. For additional details of the sale, see paragraph
1.9.1.2 (j).
4
This stage is conditional upon an approval of the changes in the plans applying to the real estate.
5
Completion of the acquisition of the rights in this real estate property is subject to the issue of appropriate building permits no later than July 2008.
6
Completion of the acquisition of the rights in this real estate property is subject to the issue of appropriate building permits no later than July 2008.
105
Percentage
holding
rent, net
Stage of
sq. m.\
(housing unit)
completion as
at 31/12/06
D8 European Park (logistic
park) Czech Republic (Stage
A)
2004
(NIS thousands)
2005
2006
anticipated
cost
(NIS
thousands)
Expected date
of completion
Second half
of 2007
Under
construction
267,086
1
D8 European Park (logistic
park) Czech Republic (Stage
B)
50%
Airport City, Belgrade,
Serbia (Stage 2 - offices) (*)
50%2
27,774
90,900
15,600
16,971
Under
construction
-
Airport City, Belgrade,
Serbia (Stage 3 & 4)
commercial and office space)
28,823
First half of
2009
Planning
71,400
Under
construction
19,930
100,157
First half
of 2007
467,401
First half
of 2010
57,457
1
In October 2006, the Group (which until then had held 100% of the rights in this corporation) sold 50% of its rights to a third party. For additional details on the sale, see
paragraph 1.9.1.2(j).
2
This project is held by a wholly consolidated company. In 2005, the Group increased its holding in this project from 46.3% to 50%.
106
Area for
rent, net
Stage of
Percentage
holding
sq. m.\
(housing unit)
completion as
at 31/12/06
Cotracini Park, Bucharest,
Romania (Stage A
Commercial)1
App. 50%2
76,500
Under
Contracini Park, Bucharest,
Romania (Stage B – Offices)3
App. 50%4
60,000
Under
construction
-
49,019
100%
207,100
Preliminary
planning
-
-
Preliminary
planning
-
Ard Mall, Ard Romania
Offices, Ard Romania
100%
140,000
2004
(NIS thousands)
2005
2006
63,811
Total
anticipated
cost
(NIS
thousands)
934,802
First half of
2008
417,323
Second half
of 2009
300,472
Second half
of 2009
73,004
Cannot
be estimated
83,303
-
Expected date
of completion
1
The company holding this property (hereinafter in this footnote, "the Corporation") purchased the rights in the real esttae as part of a split transaction that was completed
prior to the transaction in which Africa Properties purchased rights in the Corporation (hereinafter, "the Split Transaction"). Africa Properties learned that the documents for
transferring the rights in the real estate to the Corporation were not duly notarized according to Romanian law, , apparently on the basis of a legal interpretation in view of
the nature of the transaction, pursuant to which no such notarization is required in the event of a split or merger. Consequently, the Corporation may be ar risk of various
claims including the claim that the transfer of the real estate is not valid. As at the date of the periodic report, Africa Properties is taking steps to regualte this matter with the
cooperation of the other partners in the Corporation which held rights therein at the date of the Split Transaction
2
Presented according to the relative share of Africa Properties.
3
See footnote 4 to this table above.
4
Presented according to the relative share of Africa Properties.
107
I.
Rental assets held (including assets sold)
Following are details on the Group's buildings for rent (not including those of consolidated companies).1 Notably, as at the date of the
periodic report, no material change has occurred in the following details.2
Israel (held by Africa Properties and its subsidiaries)
As at December 31, 2006
Name and location
of asset
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
Buildings
(industrial, hi-tech),
Science Park,
Ness Ziona
100%
45,580
46
31
95
97
Business Park,
Rehovot
45%3
15,058
29
35
100
70
Income from rental and operation
of assets
(NIS thousands)
Percentage occupancy
as at December 31,
Number
of lessees
2004
2005
2006
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
2004
2005
2006
96
26,104
23,840
23,941
215,367
114,263
85
3,606
3,482
4,088
71,986
67,106
1
The financial data are presented according to the relative share of Africa Properties in the projects. Notwithstanding the above, the data referring to the assets of wholly
consolidated companies are presented in entirety (100%).
2
In addition, the Group has income of an insignificant scope from sub-leases of the assets that it leases.
3
The partner in the property claims that he is entitled to obligate the subsidiary, Africa Residence, to purchase from him and/or to terminate a purchase he made, as the case
may be, such that his holding (45%) in two of the three buildings in the asset are transferred to Africa Residences. The Company undertook toward Africa Residences, that, in
the specified conditions, it would enter into Africa Residences's shoes if a compromise settlement or judicial decision determines that the partner is entitled to do so. The
balance of the partner's debt to the Group concerning the said asset is, as at December 31, 2006, NIS 36.5 millions. As at the date of the periodic report, the Company and the
partner are negotiating to settle the dispute between the parties.
108
Name and location
of asset
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
63%
8,018
58
30
86
89
-
Not
relevant
Not
relevant
Not
relevant
Not
relevant
12%
-
-
36
100%
4,892
59
24
Concord Tower,
Bnei Brak (offices)
Atarim Parking Lot,
Tel Aviv 1
Panorama Center
(Commercial),
Haifa
Savyonim Shopping
Mall, Yehud (office
space) 1 (*)
1
of assets
(NIS thousands)
as at December 31,
Number
of lessees
2004
2005
2006
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
2004
2005
2006
98
4,888
5,531
5,267
83,746
68,499
Not
relevant
Not
relevant
448
229
-
-
-
-
-
-
380
329
402
6,284
4,992
100
100
100
3,229
3,353
3,476
112,662
90,882
Sold in September 2005.
109
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
100%
6,340
189
62
100
100
66.66%
8,669
96
16
98
Africa Israel House
Yehud (office space)
40%
2,600
64
17
Buildings in Science
Park, Ness Ziona
(Ef-Shar) (hi tech) (*)
100%
31,322
44
Global Park, Lod
(office space) (*)
100%
21,393
Ezrahi Center, New
Givat Savyon (*)
85%1
Buildings (hi-tech)
Science City,
Migdal HaEmek (*)
Name and location
of asset
of assets
(NIS thousands)
as at December 31,
Number
of lessees
2004
2005
2006
100
12,114
12,599
14,359
100
100
9,765
9,522
9,954
138,011
123,544
68
93
100
1,767
1,782
1,999
17,378
15,206
29
86
96
99
14,094
14,907
16,579
146,457
110,500
43
21
83
88
96
7,139
9,669
10,207
107,714
96,715
3,200
53
15
100
100
58
1,484
2,054
1,304
37,684
34,422
85%
8,416
26
12
99
98
95
2,442
2,572
2,446
21,279
16,613
Area of Ramat Aviv
Mall (office space) (*)
73.42%
9,673
82
33
100
100
100
9,142
9,276
9,617
Area of Ramat Aviv
Mall (parking) (*)
73.42%
Not
relevant
Not
relevant
Not
relevant
Not
relevant
Not
relevant
Not
relevant
10,181
10,650
12,395
382,023
303,050
Area of Ramat Aviv
Mall (mall) (*)
73.42%
17,849
355
132
100
100
100
59,621
61,951
76,172
Savyonim Shopping
Mall, Yehud (*)
Africa Israel
Tower, Tel Aviv
(office space)
1
2004
2005
2006
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
Percentage holding in this asset, through a subsidiary of Africa Properties, increased in August 2006 from 42.5% to 85%.
110
Name and location
of asset
Migdal HaKiryah
(Stage 1), Tel Aviv
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
50%
22,981
79
161
-
99
100
-
-
-
-
-
-
Migdal HaKiryah
(Stage 2), Tel Aviv
50%
26,000
Not
relevant
Student Housing,
Jerusalem2
50%
1,321
beds
NIS 1,250
per bed
1
2
of assets
(NIS thousands)
as at December 31,
Number
of lessees
2004
2005
2006
2004
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
2005
2006
-
20,560
21,859
261,336
253,861
-
-
-
-
116,268
116,268
65
-
-
1,353
69,593
69,409
In addition, offices covering a total area of 47,000 sq.m. are leased to lessees on behalf of the government of Israel.
Operations commenced in October 2006.
111
Israel, held by the Company and its subsidiaries (excluding Africa Properties)
Percentage
direct or
indirect
holding of
Company
Shopping centers
(including office
space) , Savyon
Savyon Club
Name and location
of asset
Area for
rent in
1
sq. m
Average
monthly
rental per
sq. m. in
NIS
of assets
(NIS thousands)
Number
of lessees
2004
2005
2006
2004
2005
2006
100%
3,304
97
27
100
100
100
3,378
3,656
3,846
16,552
11,066
100%
Not
relevant
Not
relevant
Not
relevant
Not
relevant
Not
relevant
Not
relevant
5,404
5,226
4002
15,110
6,225
as at December 31,
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
1
As at the date of the Periodic Report, the Company has unutilized building rights of a total area of 3000 sq.m. The Company is considering the utilization of part of the said
building rights (of an area of 1000 sq.m.) to expand the commercial areas in the Savyon shopping center. Furthermore, the Company is taking steps, and is in advanced
proceedings, in promoting approval by the local and regional planning committees for the rezoning of part of the said building rights to residential uses.
2
In January 2006, the Group discontinued the operation of this asset independently and currently leases this asset to the third party at fixed rentals.
112
Outside Israel (excluding the US and CIS), held by Africa Properties and its subsidiaries
Name and location
of asset
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
Maislova, Prague,
Czech Republic(*)1
63%
1,060
-
-
17
17
-
177
313
139
4,212
3,055
50%3
15,600
100
11
-
-
100
-
-
5,763
50,368
50,140
6,055
72
16
100
524
81
8,104
1,110
3,494
59,098
49,956
34,109
28,639
Airport City (Stage
A), Belgrade,
Serbia(*)2
Broadway Palace
(offices) Prague,
Czech Republic
Broadway Palace
(commerce) Prague,
Czech Republic(*)
Evropska, Prague
Czech Republic (*)
of assets
(NIS thousands)
as at December 31,
Number
of lessees
2004
2005
2006
2004
2005
2006
64%
2,890
160
16
100
95
95
6,744
4,573
5,079
63%
4,752
81
10
95
100
100
4,077
4,243
4,314
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
1
The Group terminated the lease agreement for the asset in 2006. The lessee (a Group company) is in dispute with the municipality of Prague (the lessor) regarding the
termination of the lease, including the termination date and the damages incurred by the lessee. The lessee is conducting negotiations with the municipality to rectify its
damages.
2
The Group and other partners agreed that the Group would, in the first stage, invest 55% of the shareholders' equity required in the project, while the partners would invest
45% (the first stage in the project ended during the third quarter of 2006).
3
This project is held by a wholly consolidated company. In 2005, the Group increased its interest in this project from 46.3% to 50%.
4
A major tenant in this asset left at the end of 2004 and the Group has since taken steps to lease the asset, gradually.
113
Percentage
holding
Area for
rent in
sq. m.
Average
monthly
rental per
sq. m. in
NIS
Number
of lessees
2004
2005
Flora Palace
(shopping mall)
Prague,
Czech Republic 1
50%
10,235
146
117
100
100
Flora Palace
(offices)
Prague,
Czech Republic2
50%
8,795
73
13
72
100%
2,800
77
2
Victoria Square,
Toronto, Canada3
Sold
Not
relevant
Not
relevant
Mod Village,
Toronto, Canada4
Sold
Not
relevant
Sold
Name and location
of asset
Overschie
Amsterdam,
Holland
of assets
(NIS thousands)
as at December 31,
2006
Cost of asset as at
December 31, 2006
(NIS thousands)
Depreciated
Total cost
cost
2004
2005
2006
100
34,374
18,578
19,595
98
100
7,468
6,601
8,552
84
79
49
2,792
2,660
Not
relevant
-
89
Not
relevant
-
Not
relevant
63
Not
relevant
Not
relevant
1,822
209,357
194,995
1,517
40,202
35,834
4,069
5,138
-
-
-
-
-
1
Presented according to Africa properties' share (in 2004 – 100%, 2005 and onwards – 50%). For additional details on the sale, see paragraph 1.9.1.2(j) hereinafter.
Presented according to Africa properties' share (in 2004 – 100%, 2005 and onwards – 50%). For additional details on the sale, see paragraph 1.9.1.2(j) hereinafter.
3
Sold in May 2006, see paragraph 1.9.1.2(j) hereinafter.
4
Sold in February 2005, see paragraph 1.9.1.2(j) hereinafter.
2
114
J. The table hereinafter includes details of assets sold by Africa Properties since January 1, 2004:
Israel
Percentage holding in
selling corporation(s)1
Date of sale
Profit (loss), net (NIS thousands)
100%
85%
100%
September 2005
September 2005
April 2006
(259)
2,102
Not relevant2
Percentage holding in
selling corporation(s)3
Date of sale
Profit (loss), net (NIS thousands)
BALVAKA (warehouses), Prague, Czech Republic
100%
March 2004
1,480
50% of the rights in the Flora Palace Project in Prague, Czech Republic
100%
December 2004
104,820
Mod Village, Toronto, Canada
55%
February 2005
6,600
Group holdings in three companies which own three properties
properties in England
49%
August 2005
660
50% of the rights in Voltava Park, Prague, Czech Republic
100%
December 2005
-
Victoria Square, Toronto, Canada
55%
May 2006
19,000
50% of the rights in D8 European Park (logistic park), Czech Republic
100%
September 2006
3,100
Property sold
Atarim Parking Lot Tel Aviv
Plot in Migdal HaEmek
Building for preservation (6, Rehov Herzl), Tel Aviv
Outside Israel (excluding US and CIS)
Property sold
K. Distribution of revenue from rental properties
The following table lists the distribution of the Group's revenue in Israel from the lease and operation of assets (in NIS thousands)1 :
1
This is the (indirect and direct) interest of Africa Properties as at the date of the sale.
The consideration from the sale was set off from the cost of the asset (Africa Israel Tower) in general.
3
This is the indirect and/or direct interest of Africa Properties as at the date of the sale.
2
115
Period\Type
of property
Science and
industrial parks
Offices
Commercial
Other2
Total
2006
57,261
75,951
133,152
6,891
273,255
2005
54,110
65,180
114,750
9,295
243,335
2004
53,385
51,857
128,276
7,226
240,744
It is hereby clarified that the hereinabove distribution does not indicate differences in the returns in various sectors, which are affected by,
among other things, the purchase date of the rights in the asset, the location of the asset, the duration of the construction, construction costs,
the manner in which the asset was marketed, and rentals during the marketing period, and other factors.
1
2
Not including management fees.
Including residential areas for rent, and Savyon Club.
116
L. Anticipated expiry dates of leases
The following table presents data concerning the anticipated expiry dates of leases signed with the Group (assuming that the renewal options
of the leases are not exercised), in the years between 2007 and 2011 and thereafter.
Number of
leases which
will terminate
Rented area
(sq. m.)
As a
percentage of
total rented area
Basic rent p.a.
(NIS thousands)
As a percentage
of total basic
rent p.a.
2007
176
49,925
11%
47,257
13%
2008
285
79,548
17%
84,687
23%
2009
140
39,689
9%
35,380
10%
2010
102
34,754
7%
30,235
8%
2011 onwards
157
260,218
56%
167,626
46%
Total
860
464,134
100%
365,365
100%
Period
117
M. Following is a table that lists, as at the date of the report, the Group companies' investments in affiliates holding rental properties (in
NIS thousands):
Investee
Description of property
Cyberzone Properties, Inc1
Leasehold rights2 in an office
building park (IT) near Manila,
Philippines
Haifa Quarries Ltd.
Commercial and office
center, Haifa
Lev Talpiot Mall - joint venture
Commercial center in
Talpiot, Jerusalem
Percentage
holding
as at December
31, 2006
Investment
in equity
Shareholders'
loans
Company's share
in accumulated
profit (loss)
Total investment
as per
consolidated
financial
statements of the
Company as at
December 31,
2006
35%3
8,743
-
30,013
38,756
45%
13,071
25,772
(20,313)
18,530
40%
-
33,201
(22,296)
10,905
1
The balance of shares in this company are held by Filinvest Land Inc (hereinafter, "Filinvest"), which is, to the best of the Company's knowledge, a company registered in
the Philippines whose shares are listed for trade on the Philippine stock market. The agreement signed by the shareholders in the investee regulates, among others, their
relationship as shareholders in this company, and defines restrictions on the transfer of holdings in this company. For details on an additional affiliate of the Group whose
balance of shares is held by Filinvest, see paragraph 1.8.2.11 hereinabove.
2
The rights in the land were leased from a company owned by a related party of other shareholders in the project company, such that the project company is entitled to rentals
in respect of the entire project building for a period of 15 years.
3
In September 2006, a subsidiary of Africa Properties purchased an additional 10% of the rights in this company (until that date, the said subsidiary held a 25% interest).
Pursuant to the provisions of the purchase agreement, the Group will purchase an additional 5% in this company in February 2008 for PHP 108 millions (USD 9.5 millions).
Notably, although the conditions precedent for the transaction have been satisfied, the transaction is conditional upon final closure, which is subject to approval of changes
made by the parties to the foundation documents of the project company, and of an increase of capital of this company.
118
1.9.1.3
Clients
The Group has over 500 clients who lease different areas from the Group in Israel. In
Europe, the Group has over 180 such clients.
The Group's clients are private customers and business corporations with different profiles
and a broad distribution. As at the date of the Periodic Report, the Group has not single
lessee, the revenues from rental thereof constitute 10% or more of the Group's revenues
from rentals.
1.9.1.4
Marketing and Distribution
The Group activates a variety of marketing methods in this segment, including the
following:
A.
Marketing through sales representatives who are employed by the Group.
B.
Agreements, from time to time, with independent marketing entities and their international
real estate agencies; generally exclusivity is not granted.
C.
Publication of information regarding the Group's properties in the national and local press,
and on the website of the Company, Africa properties, and Africa Europe, a subsidiary of
Africa Properties which concentrates operations in the rental properties segment in
Europe.
D.
Direct mailing and advertising and sales promotion campaigns in various media designed
to attract patrons to the Group's malls.
1.9.1.5
Competition
A.
The rental properties market is characterized by extensive competition, and in its
operations the Group is subject to competition from numerous entities engaged in the
development, leasing and improvement of real estate. In the rental properties segment,
competition is mainly regionally and based on the geographic location of each rental
property.
B.
Following are details of the Group's major competitors regarding its major
properties in this segment in Israel and overseas:
(1)
Ramat Aviv Mall – this mall competes with several malls in the greater Tel Aviv area,
including the Seven Star Mall and the Arena Mall in Herzliya, Ayalon Mall in Ramat Gan,
Azrieli Mall in Tel Aviv and Givataim Mall. It also competes with upscale commercial
centers such as Kikar Hamedina in Tel Aviv
(2)
Savyonim Mall in Yehud – the mall competes with several malls in neighboring regions
such as Kiryat Ono Mall and Givataim Mall.
(3)
Kiryat Weizmann Science Park in Nes Ziona – this park competes with similar
neighboring properties such as Tamar Park, and similar parks in the center of Israel.
(4)
Global Park, Lod – is adjacent to Airport City which is a competitor.
119
(5)
Africa Israel Tower in Tel Aviv and the areas designated for leasing in the Kirya Mall in
Tel Aviv and the Concord Towers in Bnei Brak compete with similar buildings in the
greater Tel Aviv area, in general, and in Tel Aviv's city area and Ramat Gan and Bnei
Brak, in particular.
(6)
Palace Flora Mall, Prague – the mall competes with other malls operating in Prague.
(7)
Airport City (Stage A) – the project competes with other projects in New Belgrade.
C.
The Company's management estimates that the scope of its operations in the rental
properties sector in Israel is extensive, but it unable to estimate its share of the market.
D.
Main methods used by the Group to address competition are as follows:
Maintaining a high standard of management and maintenance of its properties over time
and establishing and preserving the Group's reputation in this area; employment of high
quality employees who are experienced in the rental properties market; investment in
marketing of the Group and its projects; maintaining a high standard of service and
compliance with the group's obligations towards its lessees over time, and continual
checking and assessment of the rentals charged to the lessees compared to rentals charged
by its competitors in similar projects.
E.
The Company estimates that the main positive factors that affect the Group's competitive
status are:
(1)
Reputation – positive reputation confers a competitive advantage to the Group. In this
segment, the Group is perceived as a credible, experienced and high quality company.
(2)
Financial strength – the Group has financial strength, a fact which allows it to purchase
land using relatively quicker procedures, and this makes better use of opportunities in this
segment.
(3)
Experience – many years of experience in development, construction, leasing and
operation of buildings, constitutes a significant positive factor for the Groups' competitive
standing.
(4)
Human capital – the high professional standards of the Group's employees in this segment
provide the Group a competitive advantage in this competitive market, including in the
identification and exploitation of opportunities in relevant markets, in marketing and in the
positioning of properties.
(5)
Economies of scale - the Group's size and financial strength confer an advantage over its
competitors, among others, during a continued recession in the real estate market and
limited availability of credit.
(6)
Geographical distribution – the Group's ability to perform geographically distributed
investments allows an appeal to larger market segments, by adapting projects to relevant
customers.
120
1.9.1.6
Intangible Assets
In September 2004, the Company granted Africa Properties, subject to conditions defined
by the parties, the right, unlimited in time and for no consideration, to use its trade marks
in respect of the Company's logo, which are registered in the Company's segments as at
the publication date of Africa Properties' prospectus.
1.9.1.7
Human Capital
Operations in Israel
A.
In this segment in Israel, the Company employs, as at the date of the Periodic Report, 55
employees in the Company's Mall Division and/or Properties Division (of whom 24 are
employed directly by Africa Properties). In the last three years there has been no material
change in the number of employees employed in this segment in Israel.
B.
Until January 2005, the majority of rental properties activities were performed through the
employees of the Rental Properties and Mall Division. Subsequent to this date, several of
these employees were transferred to Africa Properties.
C.
Below is a schematic description of the organizational structure of the rental properties
segment, regarding operations in Israel, as at the date of the Periodic Report:
CEO of Africa Properties
CFO
Accountant
Income Producing
Properties
Division Manager
Budget
Control
Manager
Property
Development and
Betterment
Manager
National
Property
Manager
Mall
Division Manager
National
Operations
Manager
Finance
Manager
Mall
Managers
Operations
Manager
121
Operations outside Israel (Excluding US and CIS)
D.
In this segment overseas (excluding US and CIS), the Group, directly or indirectly, as at
December 31, 2004, December 31, 2005 and as at the date of the Periodic Report, employs
30, 41 and 63 employees, respectively. The change in the number of employees may be
attributed to the expansion in the Group's operations in this segment overseas (especially
in Romania and Bulgaria).
E.
Below is a schematic description of the organizational structure of the rental properties
segment, regarding operations overseas (excluding US and CIS), as at the date of the
Periodic Report:
CEO of Africa Properties
Europe Division Manager
Chief
Engineer
CFO
Regional Business
Development
Manager
Country
Managers
Accountant
General
F.
To the best knowledge of the Company's management, all officers in the Group in this
segment are employed through individual employment contracts for periods which are
generally unlimited. According to the written and oral agreements with the group's
employees in this segment, they are entitled to salary, related expenses and
conventionally accepted social benefits, while sales representative are generally also
122
entitled to performance-based bonuses. Several senior employees are additionally entitled
to reimbursement of accepted expenses, and are entitled to have a car placed at their
disposal, the maintenance expenses of which the Company bears (either in part or in
entirety).
G.
In this context it should be noted that in December 2004, Africa Properties issued options
that constitute, as at the date of the Periodic Report, 1.08% of the issued share capital and
voting rights of Africa Properties, to officers and employees in the Company and Africa
Properties (including in its subsidiaries).
H.
Pursuant to agreements between the Company and Africa Properties, the Company
renders management, consulting, accompaniment and administrative services to Africa
Properties, for an annual sum which amounted to NIS 12.6 million in 2006.
1.9.1.8
Raw Materials and Suppliers
In several cases, the Group constructs the properties through sub-contractors (including
through its subsidiary, Danya Cebus). In addition, the Group tends, from time to time, to
perform maintenance works, renovations and modifications to lessees in its properties,
beyond the ongoing maintenance of the properties that is performed by the management
companies themselves from their own budget. Generally, the Group does not purchase
raw materials independently; these materials are purchased by contractors who perform
the maintenance, renovations and construction works.
1.9.1.9
Working Capital
A.
The Group tends to collect rentals from its lessees in advance for periods ranging
between one month and one year, and thus does not extend credit to its lessees during the
normal course of business. To secure the payments due to the Group in respect of the
rental agreement and/or management agreements, the Group tends to demand a deposit
of securities (such as bank guarantees, deposits and promissory notes) under the
agreements with its lessees.
B.
For additional information on the Group's working capital, see paragraph 1.16 below.
1.9.1.10
Financing
A.
General
The Group finances its operations in this segment from its own resources, from loans
raised from institutional investors, and from banking credit granted by financial
institutions. Generally the Group operates through specific credit facilities that are
secured by a pledge and/or mortgage of the rights in properties and in supplemental
rights.
B.
In this segment, the Group is obligated to maintain financial covenants pertaining to the
credit that it receives from banks and others. To the best knowledge of the Company, as
123
at the date of the Periodic Report, no banking corporation with which the Group has
entered into an agreement in this segment, has demanded of any Group company to settle
any loan immediately.1
C.
Bonds issued by Africa Properties
(1)
Pursuant to a Deed of Trust dated February 2004 (below in this paragraph, "Deed of
Trust"), Africa Properties issued a private placement to institutional investors2 of bonds
(Series A), at a total nominal principal amount of NIS 261 million in registered bonds,
which were not listed for trade on the TASE (below, in this sub-paragraph, "Bonds
(Series A)").
The bonds are repaid in 8 equal annual installments beginning in January 2006. Bonds
(Series A) are linked (both principal and interest) to the CPI and bear annual interest at
the rate of 5.6% (effective interest of 5.85% as at January 1, 2006), paid annually.
Bonds (Series A) have been rated AA- by Maalot.
In the Deed of Trust, Africa Properties undertook to comply with the following
conditions, in the event that Bonds (Series A) are not repaid in full:
(a)
Ratio of debt to shareholders' equity and debt (CAP) will not exceed 60%.
(b)
Ratio of cost of depreciated encumbered assets of Africa Properties and total cost of its
depreciated assets based on book cost will not exceed 40%.
(c)
The ratio between (a) annual scope of actual investments of Africa Properties in new
assets under construction, based on its financial statements, and between (b) total
depreciated book cost of real estate assets in Africa Properties' books, as at the date of the
said financial statements, after deducting the balance of investments in new properties
under construction – shall not exceed 15%; in this sub-paragraph, "new properties under
construction" means real estate assets in Israel or overseas that were acquired by Africa
Properties and in respect of which all legally required permits for occupancy have not
been obtained.
(d)
Africa Properties may distribute dividends and/or provide loans to companies in the
Africa Properties group, subject to the debt to shareholders' equity and debt ratio (CAP)
not exceeding 60% after distribution is made and/or said loans are granted.
(e)
Until the repayment of Bonds (Series A) in full, Africa Properties will pay no amount
1
An affiliate of Africa Properties has a long-term liability towards a banking corporation in the amount
of NIS 23,331 thousands, used to purchase an asset in Holland that is pledged to a banking corporation.
As at the date of signing the financial statements, rentals from the said asset are lower than the rentals
on the date the loan was granted. If no change occurs in this situation, the banking corporation may
demand an adjustment in the repayment amounts of the principal, such that the rate of repayment of
installments on account of the principal will be twice the current rate. As at the date of the Periodic
Report, no such demand has been received from the banking corporation.
2
"Institutional investors" – for this matter of this paragraph, investors of the type set forth in
Addendum One to the Securities Law.
124
(principal and/or interest) towards the settlement of loans granted thereto by companies
in the Africa Properties group (including in respect of promissory notes issued by Africa
Properties to companies in the Africa Properties group), which exceeds the proceeds of
the issuance.
In this paragraph, the following terms will have the meanings alongside them as follows:
"Africa Properties group" – Africa Properties and other subsidiaries and affiliates of
Africa Properties, as these terms are defined in the Securities Law, from time to time.
"Debt" – total liabilities of Africa Properties in respect of (a) settlement of recourse loans
from banks (i.e., loans in respect of which banks hold right of recourse to Africa
Properties) (b) settlement of bonds which have been or will be issued by Africa
Properties (c) and the settlement of any other loan the repayment dates of which
(principal and/or interest) occur during the period to maturity of Bonds (Series A); in
addition to (d) the entire debt balance of any company in the Africa Properties group or
any third party which is secured by a pledge on any Africa Properties asset (but not
exceeding the cost of the depreciated pledged asset at book cost on Africa Properties'
books); notwithstanding the above, calculation of debt will not take into account loans
granted in relation to the areas leased to government ministries in the project known as
Kiryat HaMemshala in Tel Aviv, lot no. 3.1 according to City Building Plan 2746 which
constitutes part of parcel no. 1 in block no. 7101.
"Total debt and equity (CAP)" - debt and (a) shareholders' equity of Africa Properties
(b) the minority share in Africa Properties' subsidiaries, and (c) the balance of deferred
loans of Africa Properties; less – (d) the entire balance of loans granted by Africa
Properties to companies in the Africa Properties group.
"Deferred loans" - any loan received by Africa Properties from any entity, whose terms
define it as inferior to the repayment terms of the bonds, and which is not repayable
(principal and/or interest) during the period to maturity of the bonds.
"Cost of pledged assets of Africa Properties" – total cost of assets of Africa Properties
that are pledged to secure a loan, based on Africa Properties' books (but not exceeding
the outstanding debt balance).
(2)
In September 2004, Africa Properties issued Bonds (Series B) at a total principal nominal
amount of NIS 150 million and one million options (Series 2), convertible into NIS 100
million in Bonds (Series B)(below, in this sub-paragraph, "the Bonds"), which were
listed for trade on the TASE.
The Bonds are repaid in 4 equal annual installments in October of each of the years
2006-2009. The Bonds are linked to the CPI (principal and interest) and bear annual
interest at a rate of 4.65% (effective interest of 6.25% as at January 1, 2006), paid
125
annually. The Bonds may be converted into Africa Properties shares until September 18,
2009.
The major share of Bonds (Series B) have been converted into shares, such that as at
December 31, 2006, the balance of outstanding Bonds (Series B) is NIS 5,323,045 par
value.
Bonds (Series B) have been rated by Maalot as AA-.
D.
Financing Arrangements Among the Group Companies
According to agreements1 dated from September 2004, Africa Finance from time to time
grants "on call" loans to Africa Properties, bearing variable interest at the annual Prime
interest rate, as accepted from time to time by Bank Leumi, less 1.25% (below, "the
Agreed Interest"), and Africa Properties my make annual deposits with Africa Finance
bearing variable interest at the Agreed Interest rate.
The maximum amount of deposits made by Africa Finance with Africa Properties at any
given time, shall not exceed the shareholders' equity of Africa Properties, as it shall be
from time to time, and the maximum amount of deposits made by Africa Properties with
Africa Finance at any given time, shall not exceed 35% of the shareholders' equity of
Africa Properties, as it shall be from time to time. 2
E.
For additional information on the Group's methods of financing, see paragraph 1.23
below.
1.9.1.11
Taxation
For additional information on the group's financing, see paragraph 1.24 below.
1.9.1.12
Environmental Issues
A.
As the owners and/or lessees of real estate assets, the Group may be liable under law,
including under planning and building laws and environmental laws, for violations if
violations were committed in the area of the land that is owned and/or leased by the
Group.
B.
In view of the developed environmental legislation in various countries in which the
Group operates, the Group conducts various tests (such as environmental surveys) to
ensure compliance of its operations in the various projects in this segment with the
provisions of the relevant laws.
1
Validity of the agreement o receive loans (below, "the Loan Agreement") is 5 years. The agreement to
make deposits (below, "the Deposit Agreement") was approved in January 2005 as a framework
agreement (as this term is defined in the Companies regulations (Transactions with interested parties)2000) by the general meeting of Africa Properties, and consequently, deposits made pursuant to the
Deposit Agreement are subject to the approval of the competent organ pursuant to the provisions of the
Companies Law and/or the said regulations.
2
The amount of deposits of Africa Properties at any time is computed "net", i.e., total deposits made
with Africa Finance by Africa Properties less total deposits made by Africa Finance with Africa
Properties at that time.
126
1.9.1.13
Restrictions and regulation
A.
The Company’s activity in this area is subject to laws and regulations – either by
legislation or regulations - governing planning, construction, leasing and business
licensing.
B.
Planning and construction laws (including regulations enacted hereinafter) regulate the
Company’s activity operations in all aspects relating to building permits, on-site safety
during construction, utilization of land for construction and restrictions thereupon, and
occupancy approvals as needed. During the course of any project and on completion, and
occasionally from time to time subsequent to completion, approvals must be obtained
from the competent authorities, such as the Standards Institute, the Fire Brigade and
other competent authorities.
1.9.1.14
Legal Procedures
For information see Note 21a to the Company's financial statements.
1.9.1.15
Goals and Business Strategy
A.
It should be clarified that the information in this paragraph below contains forwardlooking information that is based solely on estimates regarding the state of the economy
in which the Group operates. Therefore, the said estimates may not effectively
materialize, or may materialize in a manner which differs from that estimated by the
Company, due to reasons which are not known to the Company at the reporting date.
B.
It is the Company's intention to focus, primarily through Africa Properties Ltd, in the
development of future business including the acquisition of land, the identification of
strategic areas and the improvement of existing properties. Furthermore, possible entry
into additional segments, such as protected tenancy and BOT ventures will be examined.
In this segment in Israel, the Group will take steps to realize its existing inventory of land
to satisfy its growing customer base as part of its customer retention strategy.
In 2007, as the statutory status of REIT funds becomes clearer, the Group will seek to
participate in these activities in this segment, with the aim of functioning as a leading
entity in this segment in Israel.
Rental Properties Overseas (Excluding US and CIS)
C.
The Company intends to expand its development activities in the countries in which the
Group is active in this segment, and to take steps to expand its operations into new
countries. The Company intends (through the Group companies) to focus on participation
in large-scale projects.
1.9.1.16
Outlook for development for the next twelve months
Rental Properties in Israel
A.
It is hereby clarified that the information in the paragraph below contains forward-
127
looking information that is based on the Company's estimates of its market conditions
and business opportunities. These estimates may not effectively materialize, or may
materialize in a manner which differs from that envisioned by the Company, due to
reasons which are not known to the Company at the reporting date.
B.
The Company's management estimates that the construction of the Jerusalem student
dormitories is scheduled to be completed in the second half of 2007. As at the date of the
Periodic Report, the Group is in the planning stages of a project for the construction of
multi-purpose building in Yavneh, and is considering bidding for additional BPT type
projects, similar to the Jerusalem student dormitory project.
Rental Properties Overseas (Excluding US and CIS)
C.
The Company is considering the expansion of its operations in this segment in the
countries in which it is currently active, by acquiring additional land, and is also
considering operations in additional countries in 2007.
1.9.1.17
Events After the Balance Sheet Date
For additional information on the acquisition of additional land after the balance sheet
date, see paragraphs 1.8.1.16 and 1.8.2.14 above.
1.9.2
Rental Properties in the US
1.9.2.1
Background
For details on the background to the Group's operations in the US, see paragraph 1.8.3.1
above. It should be noted that all the rental property projects currently owned by the
Group in the US were developed in partnership with companies owned by Mr.
Yeshayahu Boymelgreen who was a major driver of the Group's operations in the US.1
The said partnership is scheduled to end in April 2007, see also paragraph 1.27.1.9
below.
The major share of the Group's rental properties, including those in development stages
and including commercial areas in real estate development projects for sale, is located in
New York City. In addition, the Group has two properties in downtown Miami (Soleil
project and 1101 Bricknell project) which include office areas designated for conversion
(either in entirety or in part) to residential units for sale, see paragraph 1.9.2.3 (b) below.
Furthermore, the Group owns a 16.25% share in the rights in companies which own
properties in the Las Vegas Strip in Nevada, a 17.5% share in a company that is taking
steps to construct a theme park in Myrtle Beach in South Carolina (Hard Rock Park) and
a 49% share in companies that own residential neighborhoods for rent in Texas, see
paragraph 1.9.2.3 (e) below.
1
In some cases, a company related to Mr. Boymelgreen also functions as the prime contractor for the
project.
128
1.9.2.2
A.
General – For a description of general information pertaining to markets in which the
Group is active in the rental properties segment, see paragraph 1.8.3.2 above. In this text
it should be noted that to the best of the Company's knowledge,1 despite a downward turn
in the US real estate market, the commercial real estate sector in the US shows stability,
and the extent of vacant office areas continues to decline while prices continue to rise.
This sector also benefits from the massive injection of institutional resources.
Following are additional details pertaining to the relevant markets.
B.
New York – the Company estimates that the demand for commercial areas in southern
Manhattan will also rise, in areas that show a growth in population. According to
Cushman & Wakerfield2, a total of 5.6 million sq.ft. (that is, 560 thousand sq.m.) was
leased in 2006 (an increase of 64% compared to 2005), and the vacancy rate in premium
areas of southern Manhattan dropped by 8.4% in 2006. The Company estimates that the
said decline attests to a continued demand for commercial areas in southern Manhattan.
C.
Las Vegas – the market in Las Vegas benefits from the city's status as a popular tourist
destination in recent years. According to the Las Vegas Convention Visitors Authority
Report3, the number of visitors increased from 23.5 million visitors in 1993 to 38.9
million visitors in 2005. The Company anticipates continued growth in the demand for
casinos, hotels and convention centers in Las Vegas. According to the said report, an
aggregate annual increase occurred between 1993 and 2005. The concentration of
upscale and theme casinos is expected to continue and encourage visitors, and as a result
to encourage demand for hotels and entertainment. According to the said report, the Las
Vegas market contains 9.6 Sq. Ft. (that is, 960 thousand sq.m.) of spaces for conferences
and conventions. According to a report published by the international consulting firm
Economics Research Associates in June 2006, an additional 2.7 million Sq. Ft. are
planned for construction in Las Vegas between 2007 and 2010 (that is, an increase in
28% relative to 2005).
D.
Myrtle Beach South Carolina - to the Company's best knowledge, this area constitutes
the fourth largest tourist destination in the US, with an average of close to 14 million
visitors per year. To the Company's best knowledge, no theme park exists or is being
planned in a radius of 300 km from the park owned by the Group.
1
According to a review by IBI Investments Ltd dated December 2006 (below, "IBA Review").
To the best of the Company's knowledge, Cushman & Wakefield is an international real estate
consultancy firm.
3
To the Company's best knowledge, the Las Vegas Convention Visitors Authority is a non-profit
organization that promotes tourism to Las Vegas. The said report was published in January 2006.
2
129
1.9.2.3
A.
The following table presents details on the Group's rental properties in the US under construction and/or whose construction
is complete:
Name of
project
88 Leonard 1
10 Chelsea 3
23 Wall
Location
New York
(Tribeca)
New York
(Chelsea)
New York
(Wall Street)
Partner
Boymelgreen2
Percentage
holding
65%
Number of
housing units
for rent
App. area,
net, to be let
(sq. m.)
Status
Cost as at
December
31,2006 (NIS
thousands)
Total estimated
cost of the
project (NIS
thousands)
Expected or
actual date
of completion
352
718 commercial
Under
construction
549,347
558,118
First quarter
of 2007
1,006
commercial
Planning
15,028
229,527
2009
18,393
commercial
Under
construction
97,302
Part of the
"15, Broad"
project, see
item 1.8.3.3
(d) above
First quarter
of 2007
Boymelgreen
65%
106
Boymelgreen
65%
-
1
Rights in the property are long-term leasehold rights.
Mr. Boymelgreen, including through a company owned thereby (below, "Boymelgreen").
3
Rights in the property are long-term leasehold rights.
2
130
B.
The following table presents financial information concerning the Group's additional rental properties in the US:
Name of
Average
rental per
sq. m. in
Number of
lessees as at
Income from rental1 in NIS thousands in
The financial statements for
Book cost
As at
December
31, 2006
(NIS
Thousands)
including
land
Area to
let
(sq. m.)
Designation
NIS
31.12.06
2004
2005
2006
2004
2005
2006
(rental only)
724
Commerce
App. 437
1
-
-
74
-
-
1,007
6,118
18,393
Commerce
--
--
--
--
--
--
--
--
97,302
337
Commerce
--
--
--
--
--
--
--
--
6,135
1,540
Commerce
App.
175
3
--
--
37
--
179.5
1,444
36,234
101,600
Offices
App.
813
54
--
--
63
--
33,961
103,574
877,680
800 Pacific3
Not
relevant sold
--
--
--
--
--
--
--
--
--
--
16800
Meridian4
Not
relevant sold
--
--
--
--
--
--
--
51
--
--
project
15 Broad
23 Wall
84 Front
\The Nexus
River Lofts
14 Wall2
Percentage occupancy as at 31.12.06
1
Not including insignificant revenue from parking lot operations.
Closing of the sale of this asset is anticipated to take place in April 2007, see paragraph 1.8.3.3 (c) above.
3
This asset was sold in February 2006, see paragraph 1.8.3.3 (c) above.
4
This asset was sold in July 2007, see paragraph 1.8.3.3 (c) above.
2
131
Name of
project
Soleil
1101
Brickell
1
Average
rental per
sq. m. in
Number of
lessees as at
Income from rental1 in NIS thousands in
The financial statements for
Book cost
As at
December
31, 2006
(NIS
Thousands)
including
land
Area to
let
(sq. m.)
Designation
NIS
31.12.06
2004
2005
2006
2004
2005
2006
(rental only)
89,929
Offices
App. 514
55
-
66
64
1,055.5
5,031
5,744.5
31,130
243,038
Offices
App.
635
20
-
86
64
-
11,609
15,629
84,382
Percentage occupancy as at 31.12.06
Not including insignificant revenue from parking lot operations.
132
C.
Distribution of income from rental properties
The following table presents the distribution of the Group's income in the US from leasing and operating properties (in NIS
thousands):
Period\type of property
Offices
Commercial
Total
2006
124,947
2,451
127,398
2005
50,651
180
50,831
2004
1,055
-
1,055
It is clarified that the above distribution in this paragraph does not indicate differences in returns in various sectors, and that the return on leasing
properties is affected by the purchase date of the land in the property, location of the property, construction duration, construction costs, marketing
of the property, rentals at the time the property was marketed, and other factors, among others.
D.
Anticipated dates of expiry of rental agreements The following table lists data on the anticipated expiry dates of rental agreements signed with the Group (assuming that renewal options are not
exercised), in the years 2007-2011 and thereafter:
Period
2007
2008
2009
2010
2011 and on
Total
Number of
leases which
will terminate
Rented area
(sq. m.)
As a
percentage of
total rented area
Basic rent p.a.
(NIS thousands)
As a percentage
of total basic
rent p.a.
18
20
13
49
12
4,556
6,045
2,289
3,106
6,243
20.48%
27.18%
10.29%
13.96%
28.09%
4,334
6,043
2,317
3,228
8,474
17.76%
24.76%
9.49%
13.24%
34.75%
112
22,239
100%
24,396
100%
133
E.
Details on the Group companies' investments in affiliates engaged in the rental properties segment in the US:
Name of project
Description of the property
Partner
Park Central1
Land and buildings on the Los
Angeles Strip designated for the
construction of a housing complex
(approx. 735 units); an apartment
hotel (approx. 1,325 units); and an
overall area of approx. 150,000
sq. m. designated as commercial
property for rent; a casino to be
operated by a third party and two
hotels to be operated by a
third party.3
A company
controlled by
Mr. Lev
Leviev
(16.25%)
Boymelgreen
(17.5%)
and third
parties2 (50%)
Hard
Rock Park
Area designated for the
construction of an amusement
park on approx. 140 acres at
Myrtle Beach, South Carolina
Various
third parties
Percentage
holding as at
31.12.06
Investment in
equity
(NIS thousands)
Shareholders'
loans
(NIS thousands)
Company's share
in accumulated
profit (loss)
(NIS thousands)
Total investment
In consolidated
financial
statements of the
Company as at
December 31,
2006
(NIS thousands)
16.25%
195,943
16,841
1,890
197,734
17.5%
42,250
--
--
42,250
1
Holding is through several companies. The following data refer to all the said companies.
Construction of the project is subject to termination of leases with existing tenants. As at the date of the Periodic Report, negotiations are begin conducted with said tenants.
3
The Group intends to purchase Boymelgreen's share in the project, see paragraph 1.27.1.7 below.
2
134
Name of project
Residential
neighborhood
for rent, Texas1
Description of the property
Residential neighborhood for
rent, Texas
Partner
Boymelgreen
(app. 1%) and
third parties
(50%)
Percentage
holding as at
31.12.06
Investment in
equity
(NIS thousands)
Shareholders'
loans
(NIS thousands)
Company's share
in accumulated
profit (loss)
(NIS thousands)
48.9%
21,157
11,059
(8,397)
Total investment
In consolidated
financial
statements of the
Company as at
December 31,
2006
(NIS thousands)
12,760
To remove all doubt, it is hereby clarified that the information in the tables in paragraph 1.9.2.3 above referring to the construction of projects
whose construction has not yet begun, plans that have not yet been approved, and the areas and number of units according thereto, the additional
anticipated project cost, and the scheduled completion date constitute forward-looking information. The date in the tables are based, among other
things, on assumptions, including: (1) the Group will decide whether to utilize the land reserves or the conditions precedent to contingent
transactions will obtain, as the case may be; (2) the plans and/or applications that the Group has submitted or will submit will be approved and
come into effect without any material amendment to the number of residential units permitted for construction on the land, the mix and/or the
design, compared to the number, mix and design anticipated by the Group; (3) no material changes will occur in levies, fees and/or taxes
applicable to the parties to the real estate transactions; (4) construction costs and other ales costs will be consistent with the Group's estimates. It is
clarified that in any event of a material change in one or more of the above factors, the number of units and/or costs or dates which the Group
anticipates may be significantly modified.
1
Holding is through several companies. The following data refer to all the said companies.
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1.9.2.4
Customers
The Group's customers who lease office and commercial spaces in the US are generally
business companies that operate in diverse fields
1.9.2.5
Marketing
Marketing of areas in the Group's rental properties in the US is performed in a manner
similar to the marketing of residential units and/or other areas developed by the Group in
the US, see paragraph 1.8.3.5 above.
1.9.2.6
Competition
For details on the Group's competition in the US, see paragraph 1.8.3.7 above.
1.9.2.7
Human capital
For details on the Group's human capital in the US, see paragraph 1.8.3.8 above.
1.9.2.8
Financing
For details on the Group's financing in the US, see paragraph 1.8.3.9 above.
1.9.2.9
Regulations and restrictions
For details on the regulations and restrictions on the group's operations in the US, see
paragraph 1.8.3.10 above.
1.9.2.10
Cooperation agreements
For details on major cooperation agreements pertaining to the Group's operations in the
US, see paragraph 1.8.3.11.
1.9.2.11
Business strategy
For details on the Group's business strategy in the US, see paragraph 1.8.3.12.
1.9.3
Rental Properties in Russia and the CIS
1.9.3.1
Background
In 2000, a foreign subsidiary of the Company signed an agreement in principles with a
foreign company, for collaboration in the real estate field in Russia and in the remaining
CIS countries, see paragraph 1.27.2 below, and since 2000, the Group has been active in
the real estate sector in Russia. In Russia,. The Group operates through a foreign
subsidiary that concentrates the operations in the region (below, Africa Israel Russia").
As at the date of the report, the Company indirectly holds 88% of the rights in Africa
Israel Russia. The Company is taking steps towards and IPO of Africa Israel Russian, see
paragraph 1.3.1.1 below.
1.9.3.2
A.
The Russian economy
The Russian economically has grown significantly stronger since 2000 which stems,
partly due to a combination of fiscal budget discipline, structural reforms, high
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commodity prices (especially oil) and the devaluation of the Ruble following the
financial crisis of 1998. In addition, there appears to be an increase in income and
employment rates. To the Company's best knowledge, Russia's balance of payments has
also recently improved. To the Company's best knowledge1 the growth rate in 2006
slowed somewhat compared to preceding year and will be 6%, down from 6.4% in 2005.
B.
The real estate market in Russia
The strong economic growth described above energized the Russian real estate market
creating attractive returns of real estate development and increasing sophistication of
tenants who present a greater demand to high-quality real estate properties.
(1)
Commercial properties market – the Company believes that the continued growth of the
GDP will also lead to increased demand for commercial areas, including retail areas and
office areas.
(2)
Office market in Moscow – High levels of demand, partly due to population growth and
the arrival of multi-national corporations, and a limited supply, despite the rapid pace of
new construction in this market, led to a low rate of vacant properties and an increase in
rentals.
(3)
The commercial market in Moscow – The strong growth of the Russian economy, and
the increasing levels of individual income, also led to significant growth in this market.
An increase in retail sales in recent years attracted local and multi-national retailers, and
as a result the demand for commercial areas has increased.
Notwithstanding the energetic efforts of real estate develops to satisfy retailers' demand
and provide additional shopping centers and other commercial areas to Moscow, this
rising demand, combined with a shortage in supply, led to some decline in vacancy rates
and a rise in rentals. At the same time, it should be noted that variability in vacancy rates
and rentals in Moscow are still very high, depending on the location and quality of the
property.
C.
General description of the Group's operations
(1)
The Group plans, develops and constructs commercial properties for leasing and
residential units for sale. The Group's revenues in Russia stems primarily from the
development, re-development and sale of commercial and residential properties, either
independently or together with partners in joint ventures, and from leasing the Group's
rental properties. Furthermore, in the past the Group had insignificant revenues from the
management of projects that were owned by others.
(2)
After a decision is made to commence a specific development project, the Group
commissions the services of external architects to prepare detailed design concepts and
1
According to a review by IBI Investments Ltd. dated December 2006.
137
the details plan. Generally, the Group commissions an external principal constructor to
perform the actual construction works. The Group's project management teams and
project management department supervise the construction process.
(3)
Upon completion of the construction, examination of the finished project is required by
the appropriate regulatory authorities involved in the development process, to confirm
that the Company and the principal contractor have complied with the terms and
conditions of all the approvals of federal regulations and of the City of Moscow.
Generally, the Company delivers the project at the "shell and core" level, as conventional
in the real estate market in Moscow, and each property is leased to several tenants. This
means that the project management team handles the finishing works on the public areas,
while tenants are responsible for the fittings in their respective leased areas. It should be
noted that the Group responds to market demand in this matter and in certain cases is
prepared to handle and complete finishing works in residential projects.
(4)
The Group maintains a local office in Moscow from which it manages and operates its
operations. The projects are executed by local companies, under the Group's supervision.
In general, Group A projects require a tender process to select the contractor. Regarding
renovation and expansion works on a smaller scale, the Group works with several local
Russian contractors. In all, the various projects are executed by various construction
companies (including a subsidiary controlled by Danya, see also paragraph 1.10.4.4
below). In several projects, additional local workers are required, under the supervision
of the Group's project manager, in addition to the contractors' employees. The majority of
the additional employees are employed by the Group, or, if unfeasible, by management
companies that provide such services.
D.
Various aspects of real estate laws in Russia and common practice
The following discussion summaries, to the best of the Company's knowledge and
understanding, specific relevant provisions of the federal and local Russian law
pertaining to real estate, and to areas of the Company's business activities such as
construction. To remove all doubt, the following discussion is not exhaustive.
(1)
General provisions of Russian law –
Russian federal law is based primarily on the civil codex of the Russian Federation
(below in this paragraph, "the Civil Law"). The real estate code of the Russian Federation
(below in this paragraph, "the Real Estate Law"), the federal law pertaining to the State's
recording of rights in real estate properties and the transaction therein (below in this
paragraph, "State Record Law"), the federal law pertaining to mortgages and the federal
law pertaining to rezoning of agricultural lands. Certain provisions of the federal water
law, the federal forest law and the federal environmental protection law, as well as other
138
laws, may also refer to real estate issues.
Furthermore, regional authorities in Russia, including departments of the Moscow
municipality, may regulate matters relating to real estate. In Moscow, the sale and leasing
of real estate is largely regulated by the Moscow law pertaining to land uses and
construction in the city of Moscow (below in this paragraph, "Moscow Land Law") and
the Moscow law pertaining to building permits and renovation of objects of city planning
in the city of Moscow (below in this paragraph, "Moscow Building Permit Law"),
enacted by the municipality of Moscow. While regional legislation is not anticipated to
contradict federal legislation, certain aspects of the regional Russian legislation in
practice may be inconsistent with federal laws.
(2)
Ownership of real estate –
The Russian law recognizes the right to be an owner, to make use of and transfer real
estate such as buildings and the underlying plots of land. Russian law makes an
important distinction between land and buildings, treating each as a separate object of
rights.
Both the Civil Law and the Real Estate Law permit private ownership of land and
transfer of land from one individual to another. The Real Estate Law provides in general
that foreigners may be owners of land at the same terms as Russian citizens, with certain
exceptions. The outstanding exceptions of all are the prohibition on foreigners to own
land adjacent to Russian borders and other certain areas stated in the federal law, as well
as the prohibition on foreign ownership of agricultural land.
The Real Estate Law defines a procedure for privatization of state land and municipal
land. Federal law regarding the effect of the Real Estate Law defines the maximum price
that owners of buildings on a tract of land may be required to pay for said land. The price
is dependent on the size of the surrounding population. Therefore, in the city of Moscow,
the maximum purchase price of land under buildings is 15 times the amount of the
relevant real estate taxes.
According to the Real Estate Law, legal entities have one of the following rights
pertaining to parcels of land: (1) ownership; (2) leasehold; (3) perpetual right of use.
Although the right of ownership of land is increasing, it remains relatively rare in the
majority of Russia's areas. The Moscow municipality for example is the owner of the
majority of land in Moscow and building owners generally enter into leasehold
agreements with the municipality of Moscow.
The majority of the land designated for private development is currently held by
investors who purchased leasehold rights from state authorities or relevant municipal
authorities. In general, the terms of these agreements vary: short-term agreements are
139
executed for periods of less than one year, and long-term agreement may be for a period
of up to 49 years.
Although it is possible that several legal entities received right of perpetual use in the
land prior to the enactment of the Real Estate Law, such interest is relatively rare in the
context of real estate property development in Moscow and other major cities. The Real
Estate Law further provides in general that legal entities that use land pursuant to a
perpetual right of use, are obligated to purchase the land from the state or from its
municipal owners, or enter into a leasehold agreement in respect of the land, no later than
January 1, 2008.
In general, anyone is permitted to be the owner of a building, with no discrimination,
including foreign companies. Owners of a building are generally permitted to sell or
lease it without any need for approval of the state, unless said sale falls under the federal
anti-monopoly terms; in this case, approval is required.
According to Russian law, ownership in a building may be distinct from the underlying
land on which the building stands. However, sale of a building confers on the buyer the
automatic right of all the required uses of the underlying land. Furthermore, owners of a
building located on private land belonging to another party has priority in purchasing or
renting the underlying land.
According to current common practice in Moscow, land underneath a building is subject
to a leasehold right granted by the Moscow municipality and, accordingly, the developer
becomes the owner of the buildings on the land but does not become the owner of the
land on which the buildings are constructed.
Russian and non-Russian citizens and legal entities may purchase the said land which is
held by federal, regional or municipal authorities, for the purpose of development and
construction of new buildings. The Real Estate Law proscribes refusal by the state and
the legal authorities to grant tracts of land for the purpose of construction other than sites
on which the sale of the tract of land is restricted by federal law or the tract of land is
reserved for state purposes or local purposes. Any refusal given may be appealed in the
Russian court system.
The Russian law provides that private land and private buildings may be expropriated
"for state or municipal purposes." Owners of expropriated land are entitled to advance
notice of one year and payment of the full market value, and payment of damages in
respect of any other damage incurred. Current common practice in the courts is to give a
narrow
interpretation to the phrase "state of municipal purposes," restricting the
expropriation to cases in which there is a clear need; thus, the courts curtail attempts by
public authorities to apply this rule extensively.
140
(3)
Categories of use –
In the Federation of Russia, land is divided into specific categories based on the
designated use of the land: (1) agricultural land; (2) land for residential purposes; (3)
industrial land; (4) protected land; (5) forest; (6) coastal land; (7) reserved land.
The Real Estate Law requires that land be used pursuant to the designated use of each
category. Normally, for the purpose of commercial or residential development,
developers require that the land on which the construction is planned by tracts of land
designated for residential or industrial use.
The main procedures for rezoning are defined in the Real Estate Law and the federal law
on modification of land categories and tracts of land, which was enacted in late 2004.
Accordingly, in certain cases, the Group is obligated to modify the designation of the
land it purchases (as, for example, in the ROSE project). Generally, rezoning of land in
the Moscow region may require between 5 and 9 months, depending on the size of tract
and its specific location in the Moscow region.
In each category, land is specifically subject to specific requirements defined by federal,
regional and local laws, pertaining to the use of the land. For example, residential land is
subject to specific city plans including residential areas, administrative areas, business
areas, industrial areas, engineering areas, transportation and infrastructure areas, leisure
areas, agricultural areas, special purpose areas, and military areas.
(4)
State legislation regarding rights in real estate properties –
Since 1988, according to Russian law, ownership rights in real estate and certain real
estate transactions require state registration and come into effect only upon registration in
the uniform state registry of real estate rights and transactions (below in this paragraph,
"Real Estate Registrar"). The rights and transactions subject to state registration with the
Real Estate Registrar include the following, without detracting from the generality of the
aforestated: ownership rights in newly constructed building and installations; ownership
rights in tracts of land; transfer of rights in real estate through sale or purchase
transactions, mortgage agreements and leasehold agreement of tracts of land or building
for periods exceeding one year. Rights in real estate and transactions therein are
registered by the registration department (that is, the federal registration service), in the
relevant area where the land is situated. In the absence of state registration, rights in the
real estate property are void and null.
Information on the real estate registry is open to the public, and the public may use said
registry to confirm registered ownership rights. The real estate registry contains
important information on registered properties, including, among other things, a
description of the property, the name of the owners, and any encumbrances registered on
141
the property.
Ownership rights acquired prior to 1998, before the requirement of state registration, are
considered valid even in the absence of said registration. Therefore, the real estate
registry is not exhaustive, since ownership rights created prior to 1998 are evidently not
contained in the registry.
Regarding buildings, generally state registration is maintained only in respect of
buildings whose construction has been completed. Although it is possible to register a
building whose construction is in progress, in practice, this is a complicated process that
is used in rare cases only, because, among other things, subsequent state registration of
the building is still required upon completion. A building can be sold, mortgaged or
leased only when the state registration has been completed. Any transfer of ownership
must also be registered in order to obtain validity. State registration is generally
completed by the authorities in one month from the submission date of an application
accompanied by the required documentation.
According to Russian law, land owned by a state in the Russian Federation may be under
federal ownership, such as ownership of the Russian Federation, or under regional or
municipal ownership. Historically, such land owned by the state was not registered in the
name of any state authority. However, in 2001, the Russian Federation commenced a
marking process to allow registration of all state-owned land in the name of a specific
authority, either federal, regional or municipal. The marking process is underway and has
not yet been completed.
(5)
Mortgages –
According to Russian law, a mortgage is a type of security on a real estate property that
secures proper compliance with [the terms of] a financial obligation. A mortgage
agreement must be registered with the Real Estate Registrar and the agreement comes
into effect from the date of said registration.
If the debtor fails to meet his or her obligations, the creditor-mortgage holder may file a
claim in Russian courts to sell the mortgaged property and settle the claim from the
proceeds of said sale. In the event of bankruptcy, the mortgagee has a right of priority
over unsecured commercial creditors, although the mortgagee's right is inferior to other
creditor classes.
A mortgage on a leasehold generally requires the consent of the lessor. Unless the terms
of the mortgage state otherwise, a mortgage on land also applies to the mortgagor's
buildings on the land. Furthermore, if the land or buildings was acquired or constructed
using external debt granted for the specific purpose of financing the purchase of
construction, then the land and the building thereupon are considered mortgaged in favor
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of the lender, unless the law or the agreement between the parties provides otherwise.
(6)
Obligations of the owner of the land and buildings –
Owners of tracts of land and buildings are required to comply with federal, regional and
local legislation, including, among other things, environmental laws, public health laws,
fire laws and rules and regulations pertaining to residences and municipal planning.
Owners and lessees are required to use the tract of land pursuant to its permitted use;
refrain from causing any environmental damage; bear responsibility and financial costs
pertaining to compliance with various standards of land use; prevent pollution, waste
disposal or deterioration of the tract of land. Regional or local legislation as well as
investment or leasehold agreement with the local or regional authorities may also impose
various financial obligations on the owner, such as financing of local engineering and
transportation services, social infrastructure, and the recovery of certain expenses to the
previous tenants of the tract of land.
(7)
Review of the development process in Moscow –
The city of Moscow adopted rules and regulations (primarily the Real Estate Law of
Moscow, and the Moscow Law of Building Permits) that cover real estate construction
and development procedures that are unique to Moscow and frequently are distinct from
requirements set forth in federal legislation.
Real estate development in Moscow is a multi-stage process that involves compliance
with onerous regulatory requirements and coordination of works of numerous experts,
and approvals from a large number of federal, regional and local authorities. For
example, the municipality of Moscow, the Moscow committee of architecture and city
building ("Moscomarkitektura"), the inter-ministerial audit of the municipality of
Moscow ("Mosgorekspetiza") and several other authorities are involved in the real estate
development approval and supervision process.
Mosgorekspetiza approves planning documents. This approval is one of the preliminary
conditions for the issuance of a building permit. Mosgorekspetiza issues "permitted use
documents" as well as building permits in the city of Moscow. Mosgorekspetiza and
Moscomarkitektura represent departments of the municipality of Moscow and are under
its control.
The main stages required to obtain a building permit in Moscow generally include the
following: (a) preparation and approval of city building plan documents required (if no
such documents exist) to define the use of certain areas in the city of Moscow; (b)
preparation and approval of preliminary planning documents (including the ""permitted
use document""); (c) preparation and approval of the planning documents; (d) building
permit is obtained.
143
Stages must be completed according to the recorded order. Therefore, planning
documents are prepared on the basis of approved preliminary planning documents, while
building permits are issued only after planning documents have been approved. Building
permits are the final approval for construction, and confers upon the developer the right
to commence construction on the lot; therefore, this permit must be obtained before
beginning construction. Upon completion of construction, the new building will be
initiated for use by a state acceptance committee comprising the property developer,
prime contractor, planning organization and the various government authorities involved
in the initiation process. The acceptance committee confirms that the building complies
with all the requirements set forth in the building permit documents, and issues an
"certificate approval of acceptance of new building by the state." This certificate,
together with other additional documents, must be submitted to the federal registration
service – Moscow department, which issues a "Certificate for registration of rights" in
the developer's name.
(8)
Allocation of land for construction –
The law in Moscow distinguishes between construction by developers who have already
received leasehold rights in the land, and those who have not.
Potential developers who lease the land on which they plan to build, must apply to the
administrator of the relevant prefect of Moscow. If the proposed construction meets the
requirements of the city building plan, the prefect demands that Masomerkitektura issue
a "permitted use document".
Pursuant to the law in Moscow, a "permitted use document" constitutes basic approval
that defined potential uses of the lot and provides the technical parameters for the
proposed construction, based on existing city building plan documents. Permitted
documents are valid for one year from the date of registration.
On the basis of the "permitted use document", the relevant local prefecture issues a
"construction decision" which approves the "permitted use document" for the lot which
constitutes the legal basis for the preparation and approval of the planning documents
and the issuance of the building permit by the Masomerkitektura; the building permit
constitute an essential approval that confers on the developer the right to commence
construction on the lot, as noted above.
Developers who do not hold leasehold rights in the land must obtain such rights in order
to proceed in the construction process. As a rule, developers can obtain rights in the land
in one of the following ways: (1) participation in a tender or public auction regarding the
proposed development; (2) by obtaining a "construction decision" from the relevant
authority of the city of Moscow; or (3) by obtaining leasehold rights in the lot on which
144
the construction is proposed, by acquiring the buildings or shell/s situated on the lot.
(9)
Tender/Public auction –
The law in Moscow provides no more than ambiguous criteria for allocating land to
developers, with or without a tender. Most interpretations note that when the
development is proposed for a lot situation in an area in respect of which detailed city
planning documents exist, the lot should be allocated to the developer exclusively by
tender or public sale.
As part of the preparations for the tender or public sale, the relevant state authorities
select the lot and define its boundaries. Furthermore, the said authorities promote the
issuance of the "permitted use document" so that potential developers are aware of the
potential uses of the land before they bid in a tender or public sale.
According to the law of Moscow, the winner in the tender or public sale may enter into
an agreement with the city of Moscow either by an investment agreement for the purpose
of construction, or by a long-term leasehold agreement.
(10)
Investment agreements –
These agreements are signed with the municipality of Moscow, outline, among other
things, the terms on which the developer executes the construction, and the share each
party receives when the project has been completed. In investment agreements, the
municipality of Moscow generally reserves a 50% holding in the finished building,
although, as described below, the municipality of Moscow generally agrees to sell its
share to the developer. The share of the municipality may be smaller when the developer
agrees to assume additional expenses relating to the development, for example when the
developer agrees to bear the cost of extending Moscow city infrastructure.
Generally, the municipality of Moscow allows the developer to purchase its share in the
building before or after completion of construction. The amount payable by the
developer in respect of Moscow municipality's share in the completed development is
designed to reflect the fair market value of the said share, and it is defined on the basis of
an appraisal performed by an appraiser selected by the municipality of Moscow. After
approval of the appraisal by the municipality of Moscow, and subject to the
municipality's right to terminate all previous arrangements and elect not to sell its share,
the developer may purchase the share of the municipality of Moscow in the completed
development.
If at the development completion date the developer does not or is unable to purchase the
share of the municipality of Moscow in the completed development, the municipality of
Moscow becomes the registered owner of part of the building, pursuant to the investment
agreement.
145
Pursuant to the arrangement of the investment agreement, the developer becomes the
owner of the completed building or structure, subject to the holdings retained by the
municipality of Moscow, although the developer does not become the owner of the
underlying land. Investment agreements grant a short-term lease leasehold in order to
allow the construction on the relevant lot. The said leasehold period is defined according
to the estimated duration required to complete construction; in case of any delay in the
completion of the construction, the municipality of Moscow generally grants an
extension on the leasehold (although there is no guarantee that said extension will be
granted). Pursuant to the laws of Russia, when the construction is complete, the
developer is entitled to receive, on the registration date of the completed development, a
long-term leasehold, generally for a period of 49 years. The developer, under both the
short-term or long-term leasehold, is required to pay periodic leasing fees to the
municipality of Moscow, generally on a quarterly basis.
In a tender on an investment agreement, there is a high probability that the municipality
of Moscow awards the tender to the bidder who offers the municipality of Moscow the
largest share in the project, or the highest remuneration in respect of engineering services
rendered and the use of other municipal infrastructure during the construction period.
(11)
Long-term leasehold of the land –
Instead of using an investment agreement, the development and the municipality of
Moscow may agree to a payment, prior to the commencement of construction, of a
singular payment by the developer to the municipality of Moscow in respect of a longterm lease on the land. This singular payment is defined pursuant to provisions that are
published by the municipality of Moscow from time to time, based on factors such as lot
size, site location, and proximity to infrastructure. Although there is no set period, such
leaseholds are generally granted for a period of 49 years. In such a case, the developer
does not enter into a short-term leasehold agreement or in an investment agreement with
the municipality of Moscow.
This approach has the following main advantages: First, in exchange for his or her rights
under a long-term leasehold, the developer pays an amount that is agreed in advance
prior to the commencement of the construction, in contrast to the need to acquire the
municipality's share in the development at an amount that is approved by the
municipality at a later stage. Second, it is reasonable that less time is required for the
developer to become the registered owner of the completed building or structure using
this method, compared to an investment agreement. The reason is that when a long-term
leasehold agreement is signed, there is no need for any signature on a final protocol
certificate, confirming that the parties have completed with their obligations pursuant to
146
the investment agreement.
When with the municipality of Moscow administers a tender regarding a long-term
leasehold agreement, there is a high probability that with the municipality of Moscow
selects the winner according to the bidder that offers the highest one-time amount in
exchange for its signature on a long-term leasehold agreement. Nonetheless, the criteria
for selecting a winner are very ambiguous, both in the case of investment agreements and
in case of long-term land leasehold agreements, and significant discretion remains with
the state authority organizing the tender.
In the framework of a long-term land leasehold agreement, as well as in the framework
of a short-term land leasehold agreement, the developer is required to pay the Moscow
local government periodic leasing fees, generally on a quarterly basis. These fees are
defined according to a formula dictated by a resolution of with the municipality of
Moscow. The formula contains several elements that define the rentals to be paid by each
lessee. These elements include the size and location of the relevant lot, the nature of the
lessees' business. In general, although the same payment formula applies to all
commercial lessees in the city of Moscow, developers may have limited opportunities to
negotiate individually with the municipality of Moscow. The mayor of Moscow may,
from time to time, increase the required payment based on the standard payment formula.
After the developer has received a leasehold agreement for the land (whether short-term
or long-term), a "permitted use document" has been issued, and the state authorities have
approved the planning documents prepared by the developer on the basis of the
"permitted use document," the developer may apply for a building permit. After said
building permit is obtained, the developer may commence construction on the land.
(12)
Building decisions –
Alternatively, a lot may be purchased, through a leasehold, for the purpose of
construction, other than by tender or public sale. In this case, the real estate developer
must submit an application to the relevant authority, setting forth in details the planned
purpose of the building or facilities, its planned location and estimated lot area. A project
feasibility study or other calculations may be attached to the application. If the relevant
authority decides that the technical features of the proposed development meet the city
building plan requirements, the state authority may approve the developer's application.
Upon receiving the preliminary approval, the developer is required to ratify the
feasibility of executing the proposed construction on the lot, and define the boundaries of
the lot, among other things. If this is performed with success, Moscomarkeitektura issues
a "permitted use document" that defined the technical specifications of the building that
is permitted on the lot. According to Moscow law, a "permitted use document" requires
147
the approval of a "building decision."
The building decision is issued by the municipality of Moscow, or be any other state or
local competent authority (such as the prefect). Moscow law provides that a building
decision constitutes a legal foundation for the municipality's [commitment] to sign a land
lease agreement with the developer. After a leasehold agreement is signed in respect of
the land, the developer may apply for a building permit.
(13)
Rights on lots beneath buildings –
According to Russian law, owners of buildings have the exclusive right to lease or
purchase, at their sole discretion, the lot underneath the building they own. In practice,
building owners in Moscow generally lease the lots beneath their buildings because the
Moscow municipality is not inclined to sign agreements for the sale and purchase of said
lots.
When a developer purchases an existing building for redevelopment purposes, he/she
automatically purchases the leasehold rights in the underlying lot. Under these
circumstances there may be a need to update the existing leasehold to permit the
development of the site, or to redevelop the building for its planned uses.
(14)
Building licenses –
At present, the laws of the Russian Federation require a license for the following actions:
(1) engineering surveys; (2) planning work; (3) construction. According to Russian laws,
"construction" means the execution of construction works and as well as the function of
the client (zakazchik), a physical or special entity that enters into agreements with
contractors for the construction, and which generally supervises the construction process;
broadly speaking, this role is equivalent to a the function of a project manager. In this
case, it is the project manager's responsibility to supervise the construction, work with
the planner and contractors, and make decisions on behalf of the real estate developer
regarding acceptance of work performed. The relationship between the land owners and
the project manager may be set forth in details in any number of agreement forms,
including an agency agreement or service agreement. Suspension of the requirement to
obtain the said licenses for construction activities is scheduled as from July 1, 2007.
(15)
Procedures of acceptance upon completion of construction –
Upon completion of the construction, the new building will be initiated into use by the
state acceptance committee. This committee, comprised of the real estate developer, the
prime contractor, and the planning organization, as well as the various state authorities
that are involved in the initiation process, confirms that the building complies with all the
documentation related to the building permit. The committee signed a "state acceptance
certificate") (below, in this paragraph, "Operation Permit"), which is subsequently
148
approved by a resolution of the relevant prefecture. The Technical Inventory Bureau
must perform a survey of the completed building in order to register ownership of the
building with the state bureaus. The parties to each relevant investment agreement must
also sign a "Final Protocol Certificate" which confirms that all parties have fulfilled their
obligations pursuant to the investment agreement.
The Operation Permit, prefecture's decision, investment agreement (if relevant), Final
Protocol Certificate for the investment agreement, and the documentation of the survey
performed by the Technical inventory Bureau are subject to submission to the state
registration service – Moscow department which issues the "Rights Registration
Certificate." As a rule, according to Russian law, rights in local real estate arise upon
registration in the Real Estate Ledger. The "State Registration Certificate" and excerpt of
the Real Estate Ledger are evidence of said registration. Registration in the Real Estate
Ledger grants entitlement to an issued Rights Registration Certificate.
(16)
Financing the construction –
Construction may be financed through the land owner's own resources and/or resources
of third parties. Finance may be recruited by, among other methods, loans or the direct
investment of external investors. One of the primary methods to finance residential
construction in Russia is to recruit funds from the future owners of the apartments at
various stages of the construction. This type of financing is regulated by the Federal law
in the Matter of Participation in Construction Costs of Condominiums and Other Real
Estate" (below in this paragraph, "Cost Participation law"). The Cost Participation Law
is designed to protect the rights and interests of investment companies, especially private
investors, in projects operated under the cost participation method, by introducing the
following defense mechanisms: (a) Recruitment of financing capital using the cost
participation method may be performed only by developers who have obtained a building
permit, published a project declaration, and registered their rights in the lot designated
for construction (either as owner or lessee); (b) investment agreements based on the cost
participation method must be registered with state authorities; (c) investors' funds are
protected from developer's insolvency by a mortgage on the lot and the construction,
pursuant to the investment agreement; (d) private investors are entitled to additional
interest beyond the statutory interest rate from developers who breached their obligations
under the investment agreement; (e) administrative liability may be imposed on
developers who raised capital using the cost participation method by breaching the Cost
Participation Law, including, among other things, failure to obtain a building permit,
failure to publish a project declaration, or failure to make full disclosure in said
declaration, and failure to comply with reporting requirements.
149
The Cost Participation Law emerged to be overly cumbersome for developers and led to
a slowdown in residential construction in Russia. In July 2006, the Cost Participation
Law was amended; these amendments relaxed several of the restrictions imposed on
developers, and reduced their potential liability, with the aim of balancing between the
interests of the developers and the interests of investors in projected that are financed in
the cost participation method.
(17)
Leasing fees on land –
Physical and legal entities in Russia pay leasing fees to regional or local bodies, under
leasehold land agreements. The general rules for assessing leasing fees on land are
defined by the relevant regional and local authorities. The federal law authorizes regional
and local authorities to determine specific leasing fees on land for different classes of
lands and lessees. According to Russian laws, local authorities may demand payment of a
separate levy which may be significant in some circumstances, in exchange for the right
to enter into a leasehold agreement with the authority. Payment terms of leasing fees on
land are regulated by specific leasehold agreements signed between the lessee and the
regional or local authority.
1.9.3.3
A.
Projects in development -
(1)
General –
The Group has 21 projects in various stages of development. The Group includes these
projects as part of its asset portfolio on the anticipation that it will be able to secure all
the legal rights required to complete these projects, and on the basis of its experience in
promoting projects from the initiation stage to completion.
The Company uses the following status categories to classify its projects: concept,
planning, construction, rental property. These are generally characterized as follows:
Concept – the time elapsing since approval for permitted use is obtained until
commencement of construction.
Construction – this stage generally begins when the required building permit is issued,
and continued throughout the construction period until the installation enters into
operations.
Rental property – the final stage: construction or renovation (as described below) has
ended and the property generates revenues.
In addition, occasionally, the Company purchases existing buildings for renovation.
Renovation projects include the renovation of existing buildings, which generally
requires permits or limited approvals only, or no such approval or permits is required.
The Company's basic development costs include the cost of acquiring development rights
150
and/or leasehold rights in the land; purchase of the city of Moscow's share in the project;
payments in respect of planning, construction and management that are remitted to the
project manager; and financing costs.
In several of its projects, the Company is also faced with additional costs that include the
costs of relocating existing tenants or purchasing their yards. Relocation of existing
tenants may be a long process involving the risk of legal actions on part of the tenants
and damage to the Company's image.
Furthermore, in specific projects, the Group is also faced with additional costs of
upgrading infrastructure and construction of certain public utilities. These costs are first
imposed on the Group although ultimately they are set off against any amount that may
be imposed on the Group as part of the contractual arrangements with the relevant
government authorities.
Since several projects in the Group's asset portfolio are in a preliminary stage of
development, the completion thereof involves various approvals and/or permits as
described in paragraph 1.9.3.2 (d) above, dependent on the project stage. The failure to
obtain approvals and/or permits for any project may prevent the completion of said
project.
In this context it should be noted that the Group has not yet received official approvals or
resolutions by the competent authorities in Moscow approving the development of the
Concertgebow project. Furthermore, at this stage, the Group does not hold leasehold
rights in the land relating to this project and it is possible that said resolutions or rights
will not be granted to the Group by the competent authorities. Therefore, it is hereby
clarified, especially in respect of this project, that development is uncertain.
(2)
Details of the projects –
The following table presents details information on the Group's projects included in its
asset portfolio. Certain information appearing in the table includes estimates and
projections pertaining to projects that are in the preliminary stages of development, that
is, the concept or planning stage. Said information is forward-looking information based
on data and facts available to the Company at the date of this report. It is hereby clarified
that estimates and projections relating to any Group project may change in the future. In
the following tables, "Holding in Project" means – the share held by Africa Israel Russia
in the project.
151
Description
Status of
the
project
Legal
status
Percentage
holding
Area in
dunams
Office
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
-
36,279
1,240
133.3
1,604.4
Second
half of
2009
24,555
12,989
90,339
1,404
63.6
1,251.6
2010
3,208
-
-
63,745
944
37.4
970.2
2010
101
-
-
4,321
72
2
79.8
2010
Gross area for rent (estimated) in sq. m.
Commerce
Hotels
Housing
Site
Project
Location
Tverskay
a Zastava
Develop
ment
Shopping
center
Central
Moscow
– under
Tversaya
Zastava
Plaza
Commercial
Under
construction
Lease:
building
permit
100%
33.5
-
36,279
-
Plaza I
Central
Moscow
– opp.
Tversaya
Zastava
shopping
center
Mixed
initial
planning
Decision
of
Moscow
municipality
100%
15.5
47,663
5,132
Plaza II
Central
Moscow
– opp.
Tversaya
Zastava
shopping
center
near
Blorovks
y station
Mixed,
mainly
office
initial
planning
Decision
of
Moscow
municipality:
lease
agreeme
nt
100%
5.3
60,537
Plaza
II (a)
Central
Moscow
–
Brestskiy
val. Opp.
Tversaya
Zastava
shopping
center
Mainly
office
initial
planning
Decision
of
Moscow
municipality
100%
1.7
4,220
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
152
Description
Status of
the
project
Central
Moscow
Grouzins
ky Val,
adjacent
to Plaza
II
Mixed,
mainly
office
Preliminary
planning
Preliminary
agree
ment
with nonaffiliate
third
party
50%
21.5
63,278
2,976
20,415
Central
Moscow
– near
train
station
and
Belorusk
y metro
Office
and
commercial
Preliminary
planning
Investme
nt
agreeme
nt,
leasing
agreeme
nt
50%
4.1
17,556
3,416
-
Site
Project
Location
Tverskay
a Zastava
Plaza IV
Four
Winds I
Legal
status
Percentage
holding
Area in
dunams
Office
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
-
66,254
970
-
-
20,972
71
Commerce
Hotels
Housing
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
1,576.7
2009
222.6
First half
of 2007
336
Second
half of
2007
1,600.2
Second
half of
2008
174.6
Moscow
- City
Center
Four
Winds II
Central
Moscow
– near
train
station
and
Belorusk
y metro
Housing
and commercial
Under
construction
Investme
nt
agreeme
nt,
leasing
agreeme
nt
50%
11.3
-
1,008
-
8,938
18,882
129
Shopping
center
Central
Moscow
– on the
banks of
River
Moscow
Commercial
Under
construction
Investme
nt
agreeme
nt,
leasing
agreeme
nt
75%
44
3,246
111,743
-
-
114,989
-
386.4
153
Description
Status of
the
project
Legal
status
Percentage
holding
Area in
dunams
Office
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
17,983
41,573
544
290.5
449.4
Second
half of
2007
-
2,816
23,412
706
108
659.4
2009
-
-
23,000
163
-
353.2
Second
half of
2008
Commerce
Hotels
Housing
Site
Project
Location
Ozerkovs
kaya
Stage II
Moscow
center –
Ozerkovs
kaya
Embank
ment 26
and
B.Tatars
kaya 35
Mixed
Under
construction
Leasing
agreeme
nt
50%1
15.3
12,460
-
11,130
Stage III
Moscow
center –
Ozerkovs
kaya
Embank
ment 24
Mixed,
mainly
office
Planning
Leasing
agreeme
nt
50%
14.4
20,596
-
Stage IV
Moscow
center –
Ozerkovs
kaya
Line 36
Mixed
Initial
planning
Framewo
rk
agreeme
nt with
owners
of
buildings
on land
70%
5
23,000
-
1
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
The Group's rights to 50% in this project refer to the total project excluding the area of the hotel, 24 apartments and 48 parking spaces.
154
Description
Status of
the
project
Legal
status
Percentage
holding
Area in
dunams
Office
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
450,100
490,060
3,000
333
2,562
2008 2010
-
67,000
550
118.9
516.6
First half
Commerce
Hotels
Housing
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
Site
Project
Location
Otradnoye
Otradnoye
Otradnoye
8 km west
of
Moscow
ring road
Mixed,
mainly
housing
Planning
Investme
nt
agreeme
nt
100% 1
379
17,960
22,000
-
Paveletsk
aya
Paveletsk
aya
Embank
ment
Moscow
center –
Paveletsk
aya
Embank
ment 8
Offices
Under
construction
Title to
buildings on
land; leasing
agreement
98.2%
54.7
67,000
-
-
Paveletsk
aya
H2O
Moscow
center –
Paveletsk
aya
Embank
ment
Offices
Rental
property2
Ownership of
the
buildings
on the
site
100%
15
8,929
-
-
-
8,929
-
148.4
116.3
-
Ruza
Ruza
Ruza,
approx.
100 km.
east of
Moscow
Land
Preliminary
planning
Ownership of
the land
100%
Approx.
3,900
Cannot
be
estimated
Cannot
be
estimated
Cannot
be
estimated
Cannot
be
estimated
Cannot
be
estimated
3
13.2
Cannot
be
estimated
Cannot
be
estimated
1
2
of 2008
The agreement provides that completion of the project, the Group company will be the owner of 94% of the residential areas and 90% of the non-residential areas.
As at the date of the Periodic Report, revenue from this asset is not material.
155
Description
Status of
the
project
Legal
status
Site
Project
Location
Dinamo
Dinamo
Left bank
of River
Moscow,
opp.
Paveletsk
aya
Embank
ment
Offices
Under
construction
Berezhko
vskaya
Berezhko
vskaya
Central
Moscow,
between
the
Garden
Ring and
the Third
Ring
which
encircle
the city
Office
Under
and commercial
construction
liminary
development
agreement
with an
unaffiliated third
party
Commer
cial
Prelimin
ary
planning
Share
purchase
agreeme
nt with
third
party
St.
Petersburg
St.
Petersburg
St.
Petersburg
Preliminary
development
agreement
with an
unaffiliated third
party
Pre-
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
-
84,671
-
-
893.3
First half
of 2008
--
--
55,204
714
--
1,053.8
First half
2007
-
-
15,400
-
-
118.4
2008
Percentage
holding
Area in
dunams
Office
100%
50
81,671
3,000
-
74%
15
55,204
--
76%
30
-
15,400
Commerce
Hotels
Housing
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
156
Site
Perm
Volgograd
Concertg
ebow
Total
1
2
Project
Location
Description
Status of
the
project
Perm
Perm
Mixed
Preliminary
planning
Volgograd
Volgograd
Mixed
Preliminary
planning
Concertg
ebow
Near
Concertgebo
w metro
station,
adjacent to
ROVALES
KOY rapid
highwat
Mixed
Preliminary
planning
Total
Shops
Book
value as
At
December
31.12.06
(NIS
millions)
122,232
149,537
1,310
-
1,366.7
Second
half of
2008
6,500
-
86,100
850
-
724.4
2010
125,100
-
-
1,058,414
7,556
-
13,306.4
2012
394,563
42,185
623,994
2,519,081
20,223
1.806.4
29,7642
-
Percentage
holding
Area in
dunams
Office
Joint
investment
agreement
with a
third
party
50%1
30
16,205
11,100
-
Joint
78%
66
25,500
54,100
100%
201.4
933,314
4,912
1,458,339
Legal
status
Commerce
Hotels
Housing
Total
estimated
cost
(NIS
millions)
Estimated
date of
completion
Mutual
investment
agreement
with third
party; land
lease
agreement
Preliminary
decision
of
Moscow
municipality
20% of the rights in the project are held by a company controlled by Danya Cebus, and 30% by a company controlled by AFI Russia.
Provided that the anticipated costs of the Rosa project cannot be estimated.
157
B.
In November 2006, the public council of the Moscow municipality approved a
preliminary plan for a 330,000 sq.m. project for multi-purpose uses, in the area
above the railroad connecting the Belarus train station and the Svelevsky train
station, adjacent to the Group's Tverskaya Zestava development project. The
municipality also approved that a subsidiary of Africa Israel Russia would
promote and finance the project, inter terms opf planning, legal and economic
aspects over the course of 2007 and 2008. It is clarified that the subsidiary does
not at this stage have any rights in the project.
C.
Furthermore, it should be noted that as at the date of the Periodic Report, the
Group is negotiating for the acquisition of rights in real estate, for the construction
of 10 additional projects in Moscow, the Moscow vicinity and other cities in
Russia; these projects are projected to include a gross building area of over 1
million sq.m. for commercial, office, hotel and residential uses.
D.
To remove all doubt it is hereby clarified that the above information contained in
paragraphs A-C above, to the extent that it refers to anticipated completion dates and/or
scope of required investment and/or commitments with third parties in the transactions
set forth above and/or approvals of the relevant authorities for these transactions –
constitutes forward-looking information the occurrence of which is uncertain. The said
information is based on information and data available to the Company as at the date of
this report. It is emphasized that the estimates and assessment performed by the Group
may be modified due to a change in circumstances. It is further emphasized that in
certain cases, transactions between the Group and third parties may not be realized,
including due to, among other things, the results of due diligence examines to the extent
that the transaction is contingent upon such tests, failure to reach agreement on
agreement drafts and/or detailed agreement (to the extent that preliminary agreement
were signed) or the breach of agreements and/or preliminary agreements by the sellers.
(1)
Projects sold –
Details of the projects sold by the Group after January 1, 20041 are presented in
the following table:
1
As at the sale date of these properties, the Group held 80% of the rights of Africa Israel Russia.
158
Project
Share in
project
Share of
project sold
Aquamarine
Otradnoye
Nijinsky
100%
100%
100%
100%
50%1
100%
Odolazova
100%
100%
1.9.3.4
Sale
completion
date
May 2005
July 2005
December
20032
June 2006
Consideration Profit
(NIS
of the
thousands)
transactions
(NIS
thousands)
54,200
138,090
16,200
28,600
51,093
9,700
22,000
10,300
Competition
The real estate market in Russia is large, both in terms of geographical scope and in
terms of available development opportunities. Competition is extremely fragmented.
Currently, the Group is one of the few high-profile developers in Russia that are
engaged in large-scale construction for commercial and residential uses, at international
standards, using western business methods. The Company believes that the fact that a
limited number of developing companies operate in the Russian real estate market, the
focus on large-scale projects and international standards, has created and will continue
to generate attractive investment opportunities for the Company. Furthermore, the
Company believes that the Group's well-established relationship with Russian
authorities confer an advantage over many of its competitors. In Moscow, where the
majority of the Company's projects are located, and in St. Petersburg, where one of the
Company's current projects is located, the Company's major source of competition are
international real estate ventures and established local ventures, including Mirax,
Sistema-Hals, Capital Group, and Don-Story, each in the relevant development
category. Several of these developers have already invested in the aforementioned
cities. Since there is a limited number of large-scale investors who develop projects at
international standards, and these investors are concentrated in Moscow and St.
Petersburg, the Group's potential competitors in the remaining regions of Russia, where
the Group operates or anticipates that it will operate, are generally local developers.
The Company believes that its experience in Moscow and its relatively broader
financial abilities will facilitate its successful operations in the said regions.
1.9.3.5
Human capital
A.
Employees –
The following table presents the number of Group employees engaged in real estate
operations in Russia, by business areas, as at December 31, 2004, 2005, and 2006.1
1
In 2006, the Group, through its subsidiary, bought-back the said share that was sold in July 2005, for a
consideration of USD 50 millions.
2
Part of the transaction was completed in the course of 2004.
159
Number of employees
As at December 31
2004
2005
2006
Management
5
5
5
Finance
10
16
25
Marketing and sales
2
5
4
30
32
Business
development 29
including
project
management division
B.
Legal dept.
6
7
6
Administration
15
17
27
Total
67
80
99
Liability insurance for directors and officers
Subject to the issuance of Africa Israel Russia, see paragraph 1.31.1 below, Africa
Israel Russian intends to insure the liability of its directors and officers.
C.
Employee Option Plan
Subject to the issuance of Africa Israel Russia, see paragraph 1.31.1 below, Africa
Israel Russia intends to allocate as yet undetermined percentage of its shares, in favor
of an option plan for directors and employees, conferring an option to purchase GDRs
(global depositary receipts) to be issued by Africa Israel Russia, or shares in Africa
Israel Russia.
1.9.3.6
Strategy
The Group's strategy in its real estate operations in Russia are mainly: (a) to build on
the Group's existing market position and continue to differentiate itself from its
competitors by retaining a strategy of initiated development of large-scale projects in
attractive locations; (b) to focus on the successful execution of the Group's current
development projects, all the while seeking future development investment
opportunities; (c) to define goals for selective geographical expansion in major Russian
cities; (d) to enter into alliances with strong partners; (e) to manage the asset portfolio
in a flexible manner; (f) to maintain the diversity of the asset portfolio in order to attain
1
As part of the Group's acquisition of MKPK as part of the PUBLICKE EMBANKMENT project, the Group
purchased an active manufacturing facilities that employs 250 workers. The Group sold on production line in
this facility to an international packaging company that undertook to employ at least 100 of the employees
currently employed on the purchased production line, until September 30, 2007. The remaining workers are
scheduled to work for the party that will purchase the second production line; the sale of the second production
line by the Group is required for the Group to embark on the renovation of the building.
160
maximum investment opportunities and reduce risks; (g) to maintain a conservative
degree of debt financing; and (h) to expand the Company's abilities in property
management.
1.9.3.7
Events after the balance sheet date
In March 2007, a subsidiary of the Company, in which the Company holds 88% of the
rights (below in this paragraph, "the Subsidiary"), entered into an agreement with a
third party that is a foreign company, for the acquisition of the entire rights in a 46dunam tract of land (ownership rights in 22 dunam and leasehold rights for 49 rights in
24 dunam) in the city ZAPOZIA, Ukraine (below, "the Real Estate"). The purchase
price was set at USD 22 million. The Subsidiary intents to construction a project on the
Real Estate comprising 150,000 sq.m. of built areas in mixed uses: commercial,
residential and offices. The scope of investment in developing the Real Estate and the
schedule for project execution are as yet undetermined.
1.9.3.8
Risk factors
The Group's operations in the real estate sector in Russia are exposed to the following
risk factors, among others:
A.
Factors related to the Group and its businesses - (a) the Company's asset portfolio
comprises a small number of large projects and therefore, the Company is at greater
risk if one of the projects generates less than anticipated results; (b) the Company is
subject to planning requirements and the compliance with regulations may postpone or
develop the development of the Company's projects; (c) a shortage of prime contractors
and sub-contractor of high standards may place the Company at risk of delays or higher
prices; (d) the Company's actions, as well as the actions of the former owners of its
properties, may be subject to claims alleging non-compliance with the applicable legal
regulations; (e) a downturn in the general economic conditions in Russia may reduce
demand for the Company's projects; (f) a downturn in the Russian real estate market
may reduce demand for the Company's projects; (g) saturation in the Moscow office
market may lead to lower occupancy rates and may cause instability or aa decline in
basic rental fees; (h) the Company's legal rights in the lands used in the development of
its projects may be the subject of legal actions, which could postpone or cause the
cancellation of the Company's projects; (i) before projection completion, land leasehold
agreements and/or investment agreement related to the rights held by the Group may be
the subject of Premature termination or non-renewal; (j) several factors might hinder
the Company's ability to sell its properties, such as insolvency in the real estate market
in Russia, financial liabilities that might effect real estate, and restrictions on the
transfer of properties held by joint ventures and third parties; (k) the Company is
161
subject to general construction risks which may increase costs and/or delay or prevent
the construction of the Company's projects; (l) the Company is subject to general
development risks which may increase costs and/or delay or prevent the construction of
the Company's projects; (m) a shortage in qualified workers may postpone completion
of the Company's projects, or increase the Company's expenses; (n) local utilities
required to support the economic sustainability of projects completed by the Company
may be insufficient; (o) the Company's insurance coverage may be inappropriate; (p)
the company may be at risk of certain obligations in the field of environmental
protection, and the costs involved in fulfilling these obligations, which could have a
significant adverse effect on the Company's business, financial position and business
results; the Company may be subject to currency risks, which may increase the
Company's expenses in US dollar terms, and may adversely affect the Company's
results measured in US dollars; the Company may be subject to interest rate risks,
which may cause an operating loss; (q) the Company may be subject to risks related to
inflation, which may increase the Company's expenses; (r) Most of the Company's
current projects and its planned projects are largely concentrated in Moscow and its
environs, which leads to a limited geographical dispersion in the Group's asset
portfolio; (s) the Company relies on specific key individuals whose retirement could
have an adverse affect on the Company's business; (t) the Group's continued growth is
dependent on the senior staff of Africa Israel Russia, and, to some extent, on the
Company; (u) the Group is subject to the risks of joint ventures because the control
over several properties is shared by the Group and third parties; (v) fluctuations in the
Group's financial results from one period to another may prevent stable growth in
earnings or may adversely affect the Group's ability to plan its budget or its business
operations; (w) the Group's business strategy anticipates an additional geographic
expansion in the Group's business to cities in which the Group is less experienced and
in with whose markets the Group is less familiar, while the Group's future growth and
prospects are dependent on the successful realization of its strategy; (x) the Group may
not be able to obtain additional land in the areas adjacent to the sites of its current
projects; (y) the Group may be unable to compete effectively with real estate
companies and developers, development projects, lessees, contractors and buyers; (z)
the availability, structure and unique provisions of each of the Group's current financial
arrangements may generate additional risks; (aa) any downturn in the Group's
relationship with government authorities may adversely affect the Group's business;
(bb) due to the nature of specific agreements signed by the Group's Russian
subsidiaries, there is a risk that the debt of any one of the said companies will exceed its
162
paid-in capital, thereby violating Russian law; (cc) any deterioration in the Group's
relationship with government authorities may have an adverse affect on the Group's
business.
B.
Risks related to investments in Russia – (a) the infrastructure in Russia is
inappropriate, a fact which may adversely affect the business routine; (b) political and
governmental instability in Russia may have an adverse effect on the value of the
Group's business; (c) developing markets such as that of the Russian Federation are
subject to greater risks than more developer markets, including significant legal,
economic, and political risks; (d) economic instability in Russian may have an adverse
effect on the Group's business; the Russian banking system remains undeveloped and a
banking crisis could generate severe liquidity constraints affecting the Group's
business; (e) upcoming elections may cause political instability; (g) illegal, selective or
arbitrary government actions may generate serious negative repercussions on the
Group's business; (f) disputes between federal, regional and local governments, and
other political conflicts may create an uncertain environment for the management of the
Group's business; (g) weaknesses related to the Russian legal system and laws create an
uncertain atmosphere for investments and business operations; (h) Russia's government
authorities do not view favorably non-Russian companies that own Russian properties
are listed for trade outside Russia. This could evoke government actions against the
Group or its Russian subsidiaries if Africa Israel Russia lists its shares for trade
overseas; (i) it is impossible to project restrictions on foreign investments; (j) according
to Russian law, shareholders' liability may cause the Group to bear debts in respect of
liabilities of the Group's subsidiaries; property laws relating to easements in real estate
and encumbrances are relatively new in Russian law and therefore, they may place the
Group at risk of uncertainty in terms of interpretation and application thereof; (k)
Russian courts are entitled to order the liquidation of Russian legal entities due to
formal non-compliance with
specific requirements of Russian laws; (l) social
instability may cause increased support for the re-instatement of a centralized
government, while a rise in nationalism or violence may limit the Group's ability to
effectively manage its business; (m) Crime and corruption may create an unfavorable
business climate in Russia, which may adversely affect the Group's business.
C.
Risks related to taxation – (a) the Group is subject to general risks relating to
taxation; (b) additional tax liability may be imposed on Africa Israel Russia if the latter
is considered a resident of Russia or Israel for tax purposes; (c) In the US, Africa Israel
Russia may be considered a passive foreign investment company (PFIC); (d) changes in
the direct or indirect tax imposed on Africa Israel Russia's earnings may adversely
163
affect its business; (e) Taxation by the Russian Federation involves significant
uncertainty which may cause the group to bear a significant additional tax liability; (f)
Russian law in the matter of transfer prices may require adjustments and may impose
an additional tax liability relating to all audited transactions; (g) the Group may
encounter problems in recovering VAT from Russian authorities.
1.10
Construction Contracting Segment
1.10.1
The Group's operations in the construction segment are largely executed by the
Company's subsidiary, Danya Cebus1 which, as from 2000, is a public corporation
whose shares are listed for trade on the TASE.
1.10.2
In this segment, the Group executes construction works for various clients2 from the
private and public sectors, for residential and non-residential uses.3 As at the date of the
Periodic Report, the virtual majority of construction operations are executed in Israel
while an insignificant share is executed overseas. For its operations in this segment, the
Group manufactures concrete elements for industrialized construction at the Cebus
Rimon Industrialized Construction Ltd plant (below, "Cebus Rimon"), owned by a
subsidiary of Danya.
1.10.3
General information on the construction contracting segment
1.10.3.1.
Restrictions, legislation, standards and special constraints
A.
Sales Law – the Group is obligated to provide guarantees/securities in favor of buyers,
and repaid inconsistencies stemming from construction faults (as these terms are
defined in the Sales Law). This imposes a warranty that persists beyond project
completion. For additional details see paragraph 1.10.5.3 below.
B.
Licensing – According to the Construction Engineering Contractor Registration Law1969 (below, "Contractor Registration Law"), the Group requires a contractor's license
and an appropriate classification issued by the Contractors' Registrar in order to operate
as a contractor. Danya Cebus is classified under the unlimited construction engineering
works category. Danya is also a "recognized contractor" for construction works,
belonging to the unlimited category (industry 100 – Classification Gimmel 5), for the
government, and is a recognized contractor of the Ministry of Defense.
C.
Standards - Danya has been examined and reviewed by the Israeli Standards Institute
and found to be in compliance with the requirements of Israeli and International
Standard ISO-9001/2000 in the area of general construction contracting. Danya has also
1
In paragraph 1.10, any occurrence of "Danya" includes through its subsidiaries.
Some part of the Group's operations in this segment is executed for Group companies and companies that are
held but not controlled by the Company.
3
In 2006, residential construction works constituted 60% of the Group's operations in this segment, while the
remaining works (primarily offices) constitutes 40% of its operations in this segment.
2
164
been examined and reviewed by the Israeli Standards Institute and found suitable to the
requirements of the Israeli and International Standard for safety and health
management, in the area of general construction contracting. Danya has been certified
by the Israeli Standards Institute to perform on-site concrete casting pursuant to Israeli
Standards 1923; Danya was awarded a Gold Standard by the Israeli Standards Institute,
an award which is granted to companies that have received certification of at least three
quality marks.
D.
Foreign labor – restrictions and constraints pertaining to the employment of foreign
construction workers apply to the Company, for details see paragraph 1.10.11.9 below.
1.10.3.2
Changes in the scope of operations and profitability
There has been no material change in the scope of the Company’s activity in this area
compared with the previous year. Notwithstanding the above, there was a 29% increase
in the total areas of construction starts, and 18% in the total construction areas.
1.10.3.3
Critical success factors
In the Group's estimation, the principal factors of success in this area of activity are as
follows: (1) a customer service system that is responsible for tenants in residential
projects; (2) clients’ satisfaction and a stable enduring relationship with clients; (3) the
Company’s financial strength; (4) know-how, experience; and project management and
execution skills in construction projects; (5) adherence to timetables and a high
standard of performance.
1.10.3.4
A.
In this segment, the key formal entry barrier is licensing: obtaining a contractor’s license
and gaining registration in the Register of Contractors.
B.
Some invitations to tender issued by various government offices stipulate, as a
precondition for participation, confirmation of “recognized contractor” status. Other
threshold conditions are also sometimes stipulated, which differ from one tender to the
next. They may include providing guarantees in a certain volume, shareholders’ equity
or prior activity volume and experience in the execution of similar projects.
C.
In addition to these barriers, there exist, in the Company’s estimation, unofficial barriers
in non-Government sector invitations to tender. These may include requirements of
shareholders’ equity and financial capability, goodwill and prior experience, all of which
may affect eligibility to respond to invitations to tender for contract execution.
1.10.3.5
Structure of competition in the construction segment and changes
The construction sector in Israel is very competitive. Israel has thousands of companies
operating as construction contractors, of which, in the Company’s estimation, several
companies execute large-scale projects.
165
1.10.4
1.10.4.1
The Group renders construction services to residential and non-residential projects
using both conventional and industrialized methods. Occasionally, the Group agrees on
a partnership in projects in this segment [and acts] as the developer as well (in addition
to rendering construction services). At the date of the Periodic Report, however, these
projects constitute a negligent percentage of the Group's operations.
1.10.4.2.
As a December 31, 2006, some 2,400 residential units were in various stages of
construction in residential projects, and some 123,500 sq.m. were under construction in
non-residential projects (of which, 17,000 sq.m. in projects in Russia).
1.10.4.3.
In the course of 2006, the Group commenced construction of 1,300 residential units and
completed construction of 770 residential units, in this segment. In 2006, the Group
commenced construction of 104,500 sq.m. (of which 17,000 sq.m. in Russia) and
completed construction of 58,300 sq.m. in non-residential projects.
1.10.4.4.
The Group's operations in construction contracting in Russia
A.
The Group commenced operations in the construction contracting sector in Russia in
2002. Under these operations, the Group is engaged in construction, and project
management and supervision for the Group's companies. As at the date of the Periodic
Report, the Group's operations in Russia are performed by a company incorporated in
Russia (and held by a subsidiary of a company incorporated in Cyprus) (below, "Danya
Russia"). Danya Russia leases offices in Russia from the Group, in exchange for a
relative share in rental costs and ancillary expenses.
B.
Towards the Group's operations in construction contracting in Russia, the Group
employs 36 employees, most of whom reside in Russia.
C.
As at the date of the Periodic Report, all the Group's operations in construction
contracting in Russia are performed for the Group's companies. Following are details
on the main projects either executed by the Group in Russia in 2006, or are in the
preliminary review or early execution stages.
(1)
In 2006, the Group was engaged in the planning and execution of an office building in
Moscow of an area of 17,000 sq.m, for Group companies. As at the date of the Periodic
Report, the project is in its final stages.
(2)
Prime contractor and engineering management services to Group companies, pertaining
to a construction project of an area of 50,000 sq.m., for a consideration of USD 52.8
million.
(3)
Excavation and revetment services at the cost of USD 7.1 million on an area of 80,000
sq.m. and anticipated scope of USD 100 million.1
1
Subject to signing binding agreement and obtaining approvals required by law.
166
(4)
The Group has commenced the initial stages of project management operations
pertaining to two large commercial centers that Group companies are constructing in
Moscow, as part of a partnership planned with an international project management
company. In January 2007, an agreement was signed regulating the receipt of the
consideration in respect of services that were and will be rendered by Danya in a
specific project, in consideration of USD 1.5 million. As at the date of the Periodic
Report, the parties have yet to agree on whether the Group will continue its project
management operations in entirety.
(5)
Danya entered into an agreement with a Group company and a local company in the
Perm district, Russia, for collaboration in constructing development projects in this
district. The Group's share is 50%. The first project is designed for the construction of
1,000 residential units and 20,000 sq.m. commercial areas, in the city Perm, at an
estimated financial scope of USD 400 million. Furthermore, it was agreed in principle
that the Group would constitute part of an additional joint venture to be established
with the local developer, and will function as the project's prime contractor.
(6)
Building contractor services rendered to the Group pertaining to the residential
neighborhood construction project (comprising thousands of residential units, public
areas and public buildings) planned in Moscow suburbs. Binding agreements pertaining
to the provision of services in this project have yet to be signed.
D.
Furthermore, the Group is examining the expansion of its operations in Russia, by
promoting its operations in Russia beyond agreement with Group companies. Based on
an agreement in principle, subject to a binding agreement, Danya and the Group intend
to collaborate on projects, subject to the following: Danya's operations in Moscow will
be limited to contracting works (and not development) and Danya will not compete
with any Group company on the exploitation of opportunities.
E.
The above pertaining to the projects described above, including projects in respect of
which agreements in principle were signed and projects in respect of which
construction has not yet commenced, and in the matter of the Group's expected scope of
operations in the construction segment in Russia, is forward-looking information and
there is no certainty that this information will be realized; this information is based of
the best knowledge, estimates and assessment of the Company's management as at the
date of the Periodic Report, and on negotiations conducted by the Group. The above
may not be realized if the said negotiations do not mature, either in part or in entirety,
in the form of binding transactions and/or if the required approvals for said agreements
are not obtained or the actual scope of the projects are modified relative to the
projections.
167
F.
It should be noted that the Group operates in Russia in an environment which is both
economically and politically unstable, and is subject to risks in its operations that are
not typical of other countries. Furthermore, the insurance sector in Russia is
insufficiently developed and as a result, several Group properties in this segment in
Russia, and its operations therein, lack appropriate insurance coverage.
1.10.4.5
Negotiations on the Group's planned operations in Kazakhstan
A.
On November 15, 2006, Danya entered into a non-binging LOI with the Ministry of
Education and Science of the Republic of Kazakhstan (on behalf of the government of
Kazakhstan), regarding an agreement to construct 100 schools in Kazakhstan. As at the
date of the periodic agreement, execution schedules, the project scope and the
consideration for the said project have not been defined and will be defined in
negotiations by the parties.
B.
Execution of the project is subject to the completion of negotiations between the parties
(which are expected to be conducted over several months, with no uncertainty
regarding the success thereof), execution of a detailed agreement and several
preliminary conditions, including the necessary approvals from the government of
Kazakhstan, an agreement regarding the consideration and the schedule for execution.
C.
According to estimates of the Company's management, to the extent that a detailed
agreement is signed and all preliminary conditions are satisfied, the schedule for project
execution will extend over several years. The Company's management also estimates
that it executes this project, the Company will be compelled to raise a significant
amount of capital to execute the project; scope of works involved in this project may
reach several hundreds of millions of US dollars.
The above information pertaining to the terms of the transaction and the dates for
project execution (including schedules, projects scope, scope of financing required, etc)
constitute forward-looking information based on the Group's assessment as at the date
of the Periodic Report, pursuant to negotiations conducted with the government of
Kazakhstan, as noted above. The estimates of the Company's management may not
materialize if the said negotiations fail to mature into the execution of a detailed
agreement, or if the principles of the agreement are amended during the negotiations,
or if the approvals required for the said agreement are not obtained, or if the
preliminary conditions for the agreement are not satisfied.
1.10.4.6
The Group's operations in Canada
A.
The Group commenced its operations in the construction sector in 2003; a company
was established in Canada as part of these operations (60% of the company's share
capital is held indirectly by Danya). In 2006, the said Canadian subsidiary terminated
168
its operations.
B.
The Group's balance of liabilities pertaining to the operations of the Canadian
subsidiary, as at March 2006, are a credit facility granted in the amount of CAD 2.5
million. However, the Company's management estimates that it will not be required to
provide the said amount in practice, in view of the termination of the Canadian
subsidiary's operations. The above assessment constitutes forward-looking information
and is based on the effective termination of the Canadian subsidiary's operations. This
assessment may not materialize if a resolution is adopted to continue the operations of
the Canadian subsidiary, or if unexpected disclosures are made pertaining to the
operations of the said Canadian subsidiary.
1.10.5
Clients
1.10.5.1
Clients in Israel
The Group’s principal customers in this area are companies and individuals engaging in
real estate development, or rental properties (below, “Developers” and/or “the Private
Sector”), the Government, government companies and auxiliary units (below, “the
Public Sector”). In 2006, the scope of work for the Public Sector was insignificant.
Several Private Sector clients are Group companies, several are Company partnerships,
and the remaining clients in the Private Sector are third parties.
1.10.5.2
Clients in Russia
As at the date of the Periodic Report, all Group clients in the construction sector in
Russia are Group companies. For additional details on the Group's operations in the
construction segment in Russia, see paragraph 1.10.4.4.
1.10.5.3
Agreements with clients
The majority of the Group's agreements in the construction contracting segment
pertaining to the execution of projects, have the following main features:
A.
In most projects, the Group functions as the building contractor and renders
construction services on behalf of the client.
B.
The Group employs sub-contractors and is occasionally liable for their work towards
the client. In specific construction fields (especially systems and/or site development),
the Group frequently enters into a "tri-partite" agreement with the client and a subcontractor.
C.
The client generally appoints a project manager or supervisor on his or her behalf;
occasionally, appointment of the supervisor is subject to the client's approval, and the
approval of the bank in the case of a bank construction loan. In several cases in which a
bank construction loan is in operation, the client pledges his or her rights toward the
Group in favor of the bank.
169
D.
Generally the client may modify the project execution schedule, order suspensions in
the execution of works for a limited or unlimited period. The client further may
increase or decrease the scope of the project, and make adjustments to the price
accordingly; and to request additional works or works that differ from those that were
agreed upon in advance.
E.
The majority of agreements contain a compensation mechanism in the event of a delay
in the execution schedule.
F.
The payments defined in the agreements with the clients are considered interim
payments on account of the consideration.
G.
In most agreements, the Group is required to deposit a guarantee to secure performance
of the works and/or comply with the agreement (below, "a Performance Bond"). Upon
completion of the works, the Performance Bond is generally replaced with an
inspection bond as described in paragraph 1.10.5.3 (k) above.
H.
Occasionally, the Group receives an advance payment at the beginning of the project
(conventionally equal to 5%-10% of the total value of the work), against which the
Group is generally required to issue a bank guarantee.
I.
In projects that are executed by the Group jointly with other companies, liability is
generally single and jointly toward the client, and agreements contain a series of mutual
indemnification clauses.
J.
Occasionally, the Group reaches an agreement with the client to postpone payment of
the Group's approved bills, against a consideration agreed upon in advance between the
Group and the Client (interest and/or specific percentage of the client's project
earnings).
K.
In agreements with various clients, the Group generally assumes a warranty pursuant to
the provisions of the Sales Law to repair inconsistencies in respect of building defects.
This warranty applies during the inspection period that is defined in the Sales Law, and
which begins upon delivery of the property to the tenant or the client (pursuant to the
provisions of the agreement), and various warranty periods defined in the Sales Law
that begin at the end of the inspection period. The Group generally gives the client
securities in respect of the inspection and warranty periods. Generally, a bank guarantee
or other security is given in an amount equal to 5% of the agreement value, and is
gradually reduced until the cancellation thereof (hereinabove and below, "Inspection
Bonds").
L.
Agreements with clients in Russia – the Group's agreements with clients in Russia are
substantially similar to its agreements with clients in Israel, as described above, with
the exception of several features, including the omission of a bank performance bond
170
for clients in Russia.1 It should be further noted that, as at the date of the Periodic
Report, all the Group's agreement for the execution of construction works in Russia
were with Group companies.
1.10.5.4
The Group's method of receiving the consideration
In the construction contracting segment, the method of receiving the consideration
varies by project. The main methods employed by the Group are:
A.
Turnkey – In this method, contracts are based on a fixed price that is agreed upon in
advance of execution, although specific parts of the work contained in the contract may
be priced on the basis of measured quantities, as described below. In general, in
contracts of this type, payment is remitted according to a fixed payment schedule,
according to project milestones, and, in certain cases, according to the progress of sales.
The major share of the Group's revenues in this segment in 2006 was based on this
method.
B.
Measured quantities - Under this method, the contract consideration is based on
measured quantities of work actually performed, the precise scope of which is
determined only upon the completion of the project. A small share of the Group's
revenues in this segment in 2006 was based on this method.
C.
Cost Plus – In this method, the Company is reimbursed for its expenses relating to the
execution of the project, and, in addition, a specific percentage intended to cover
overhead and financing expenses and a profit. The Group's revenues from this segment
based on this method in 2006 were negligible.
D.
Tenants' modifications – In residential projects executed by the Group for clients,
tenants may make modifications to their apartments, with the advance agreement of the
Group, or pursuant to an agreement with the client. Tenants pay the Group directly,
according to the modification price schedule conventionally used by the Group or
according to a modification price schedule defined in the agreement with the client. The
Group pays tenants directly in the event that tenants' modifications reduce the value of
the works executed by the Group. These refunds are in amounts that are not material for
the Group. The scope of the group's revenues from this method is not material relative
to its total revenues in this segment.
1.10.5.5
In the construction segment, the Group has returning clients which commission project
execution work from the Group from time to time over time. The Group estimates that
the repeat clients return in view of the Group's reputation in the construction market,
and in view of their satisfaction in previous projects executed by the Group.
Notwithstanding the aforesaid, due to the nature of agreement with clients, which are
1
Until now, the Company has not granted bank-secured performance bonds in Russia.
171
generally effected through quasi-tenders, previous experience with clients does not
generally assure the award of additional projects, and only confers on the Group the
right to compete with other construction companies in the future in said quasi-tenders.
It should be noted that the deciding factor in being awarded work in any project is
generally the price offered for the construction works.
1.10.5.6
As at the date of the Periodic Report, the Group is examining participation in a tender
for the execution of a residential project (including commercial areas) in Israel, in
collaboration with another company, in equal shares. The Group's share in the project,
if it assumes a share therein, may each hundreds of millions of shekels.
1.10.6
1.10.6.1
The Group secures contracts for execution generally by participating in tenders issued
by the Private Sector, either by approaching potential clients on its own initiative and
by approaches made by various clients. Decisions to award contracts are made on the
basis of negotiations or tenders. In most cases, the projects require that the Company
execute the construction only, in accordance with a given plan and specifications. In
some cases, the Group is also responsible for the planning, according to general
guidelines.
1.10.6.2
For details on an agreement whereby the Company undertook to award Danya building
contracts in Group companies' projects, see paragraph 1.1.6.2 above.
1.10.7
Back-log of orders
1.10.7.1
The Group's backlog of orders in the construction contracting segment as at December
31, 2006 amounted to NIS 1.1 billion, an amount which constitutes a 16% increase
compared to December 2005. Following is the estimated breakdown of the orders backlog, by anticipated period o income recognition (in NIS millions, based on the estimates
time of income recognition):
1.10.7.2
Q1/2007
Q2/2007
Q3/2007
Q4/2007
2008
2009
170
190
190
160
370
45
In the period between December 31, 2006 and immediately preceding the date of the
Periodic Report, Danya entered into additional project execution agreements, the
estimated revenues from which amount to NIS 324 million. In addition, Danya agreed
on a partnership in a development project in Perm, Russia, in which Danya's share is
expected to amount to USD 80 million. For additional details, see paragraph 1.10.4.4
above.
1.10.7.3
Expectations concerning the timing of income recognition of the orders backlog are
172
forward-looking information. Said estimates may not materialize, or may materialize in
a manner other than in the expected manner, due to risk factors that affect the duration
of project execution, among other things. Furthermore, amendments to IFRS may
affect income recognition methods and as a result, affect the orders backlog and the
realization thereof.
1.10.7.4
In 2006, projects of a scope of NIS 917 million were added to the Group's orders
backlog, of which NIS 216 million in Russia. Execution of several projects is subject to
conditions that have not been satisfied in full.
1.10.7.5
Following is the breakdown of the orders backlog:
Client
%
Item
%
%
70%
Geographic
location
Israel
Company
6%
Company
partners
33%
Residential
construction
Nonresidential
construction
30%
Overseas
19%
External
61%
Total
100%
Total
100%
Total
100%
81%
1.10.8
Competition
1.10.8.1
The Group’s major competitors in the construction contracting segment in Israel, to the
best of the Group’s knowledge, according to Dun & Bradstreet publications for the year
2006, are as follows: Solel Boneh, Ashtrom, A. Dori, A. Arenson, SGS, Tidhar, Minrav
and Electra Construction, in addition to other, smaller construction companies, which
calso compete with the Company in this segment.
1.10.8.2
According to Dun & Bradstreet publications for the year 2006, Danya Cebus is ranked
among Israel's 5 largest development, construction and infrastructure companies. The
Company's management estimates that the Group's share of this segment in 2006 was
several single percentage points of the construction industry in Israel.
1.10.8.3
For details on the Group's competitive strategy in the construction contracting industry,
see paragraphs 1.10.5.5 and 1.10.6.1 above.
173
1.10.9
Fixed assets and facilities
Following is a description of the fixed assets and facilities used by the Group in its
operations in the construction contracting and infrastructure contracting industries1
(below, jointly, "contracting segments").
1.10.9.1
The Group leases an area of 2,870 sq.m in Or Yehuda, where Danya's offices are
located. The lease period ends in 2010, when the Group has an option to extend to lease
to 2012 (with the exception of a part of the leased area, the lease in respect of which
ends in 2008).
1.10.9.2
Through a subsidiary, the Group own two plants that produce industrial construction
and infrastructure elements, primarily for Danya’s operations, as follows:
A.
The first is on an area of 66 dunam, pursuant to a lease ending in 2010, with options to
extend to a total period of 20 years. From February 2003 onwards, the parties to the
lease may terminate the lease subject to advance notice by one party, among other
things. It should be noted that the failure to locate an alternative site for the plant, in the
event of Premature termination of the lease, may have a material adverse effect on the
Group in the contracting segments.
B.
The second is on an area of 13,000 sq.m.in Palmahim, pursuant to a lease with a third
party, in effect until 2010; the Group has an option to extend the lease until 2013.
1.10.9.3
Furthermore, the Group leased an area of 10 dunam in Beit Arif. This area serves for
the storage, maintenance and servicing of construction equipment and tools. Charges
were filed against Danya and others in respect of irregular use of the said land without a
permit. The legal proceeding is in preliminary stages.
1.10.9.4
Occasionally, the Group temporarily leases offices at the construction sites on which is
operates.
1.10.9.5
Danya leases offices in Moscow from the Group. For additional details, see paragraph
1.10.4.4(a) above.
1.10.9.6
Danya’s fixed assets include cranes, construction equipment, motor vehicles, office
furniture, computers and office equipment. The net book value of the fixed assets in
Danya’s books as at December 31, 2006 is NIS 32 million.
1.10.10
Intangible assets
Following is a description of the Group's intangible assets in the contracting segments:
Pursuant to a trademark utilization agreement signed between Danya and the Company,
the Group (through Danya) was granted the right to use Company trademarks in the
contracting segments for an unlimited period and at no cost, for as long as the Company
1
For a description of the Group's activities in the contracting infrastructure segment, see paragraph 1.11 below.
174
owns 50% or more of the voting rights in Danya’s General Meeting.
1.10.11
Human capital
Following is a description of the Group's human capital in the contracting segments:
1.10.11.1
The Group employs, directly and indirectly, thousands of workers at the various
construction sites, including foreign workers, workers from West Bank and Gaza
Territories, and employment agency workers. The number of such workers varies in
accordance with the scope of the Group's operations.
1.10.11.2
The majority of the Group's employees in the contracting segments are employed on
the basis of individual contracts and employment letters. Several Group employees
receive bonuses and/or benefits from time to time, based on decisions by the Group's
management in these segments.
1.10.11.3
The general collective labor agreement for employees in the construction industry and
public works, and the addendum to this agreement dated August 2004, apply to all the
Group's employees in the contracting segments, from foreman and downwards.
1.10.11.4
Danya's officers are employed on the basis of individual employment contracts, and the
employment terms thereof are similar to those of the Group's remaining employees in
the contracting segment.1
1.10.11.5
In addition to employees of the Group in the construction sector, the Group employs
Israeli employees and employees from the West Bank and Gaza Territories through
employment agencies.
1
In January 2006, Mr. Itamar Deutscher ended his term as CEO of Danya, and Mr. Ofer Kotler commenced his
term in this position.
175
1.10.11.6
Roster of employees
As at December 31, 2006, 452 employees in the contracting segments were employed
by the Group. This figure does not include employees who are employed overseas
(approximately 36 employees in Russia), employees who are employed through
employment agencies, or foreign workers.
Following is a breakdown of the Group's employees in the contracting segments:
Department
Number
of
Employees
CEO
1
Company management
8
Project managers and execution engineers
90
Engineers, associate engineers and college 107
graduates
Foremen and assistant foremen
120
Clerks and bookkeepers
16
Storeroom and administrative staff
44
Equipment operators and drivers
31
Skilled labor
35
Total
452
The employee roster, as at December 31, 2006, has increased by 14% compared to the
employee roster as at December 31, 2005. The described increase stemmed primarily
from the execution of Highway 431, defined below.
1.10.11.7
Organizational structure
In the contracting segments, the Group operates through a headquarters, which
concentrates its operations and provides administrative and logistical support to the
execution of various projects. The Company's divisions are: Finance and economics,
Execution, Planning and engineering, operations, Control and information systems, a
HR department and a legal department. Two subsidiaries of Danya concentrate their
operations in their own headquarters.
Project management in the contracting segments is performed by managerial teams.
Each team generally comprises a project manager and foreman (site manager). In
complex, large-scale projects, the team also includes execution engineers, warehouse
176
staff and other employees based on the specific nature of each project. The managerial
team is responsible for the execution of the work, the quality of the work, the schedules,
and the financial reconciliation with clients, sub-contractors, suppliers and service
providers.
1.10.11.8
Practice and training
From time to time, based on the employee’s position and its needs, the Group conducts
training, seminars and workshops for its employees (including officers) in the
contracting segments, by role and profession, in order to maintain the professional
standards of its employees on all levels, in all professions, and in all roles.
1.10.11.9
Foreign workers
A.
The Group employees, either directly or indirectly, thousands of Israeli employees,
foreign workers and workers from the West Bank and Gaza in the contracting segments.
A considerable proportion of the Group's employees in the contracting segments are
foreign workers, employed by the Group pursuant to its requirements based on the
scope of its operations and needs. The State determined the quotas for foreign workers
in the construction industry on an annual basis. In recent years, the State adopted a
policy of reducing the number of foreign workers, by increasing the cost of their
employment and by restricting the number of employment permits issued in respect of
foreign workers.1 Furthermore, conditions pertaining to the employment of foreign
workers have been defined, including the requirement to submit various reports, and
deposits into a fund in favor of foreign workers.
B.
In addition to the above restrictions, the government decided to completely prohibit the
employment of foreign workers in projects executed for the government, governmentowned companies, statutory corporations, local authorities and municipal corporations.
Consequently, in the contracting segments and until the government amends the method
for employing foreign workers, the Group was allocated a smaller number of
employment permits for foreign workers than the number of permits it requires.
C.
In 2004, Danya appealed to the High Court of Justice in respect of its failure to utilize in
full the permit quota issued to the company in 2003, due to the "closed skies" policy
adopted by the government, through which it restricted the entry of foreign workers into
Israel. In 2005, Danya filed a suit against the State in the amount of NIS 42 million in
respect of the damages caused as a result of the company's failure to utilize the quota of
permits that it had received in 2003.
1
The government's policy to limit the number of permits for foreign workers in the construction industry led to
a decline in the quotas from 30,000 permits per year in 2002-2003, to 20,000 permits in 2004, 17,500 permits in
2005, and 15,000 permits in 2006.
177
D.
In 2005, the method of employing foreign workers was amended, whereby pursuant to
the permits for the employment of foreign workers would be issued to companies
holding a license to employ foreign workers in the construction industry, rather than to
the construction companies themselves. The Group established a wholly owned
corporation for the purpose of obtaining permits for the employment of foreign workers
pursuant to the necessary requirements. In 2006, the said corporation received a license
to employ 350 foreign workers. The corporation submitted an application for a license
to employ 700 foreign workers in 2007. As at shortly before the date of the Periodic
Report, the corporation has yet to formally obtain the said license, and the Group
employs the foreign workers it required through other licensed corporations.
Illegal employment of foreign workers may lead to heavy criminal penalties, and a
significant increase in the cost of employing foreign workers by the Group in the
contracting segments. Consequently, the issue of foreign workers has a significant (and
adverse) effect on the Group's operations in the contracting segments.
E.
The restrictions and conditions for employing foreign workers as set forth above have
caused, among other things, a significant increase in the Group's costs of employing
foreign workers in the contracting segments. Consequently, the issue of employing
foreign workers has a material (adverse) impact on the Group's operations in the
contracting segments.
1.10.11.10
Employee option plans
In February 2000, shortly before the issuance of Danya's shares on the TASE, Danya's
Board of Directors approved an employee option plan, in which senior Danya
employees were granted options to purchase shares in Danya. In the course of 2006,
22,500 such options were exercised. As at the date of the Periodic Report, there are no
options outstanding to purchase shares in Danya.
1.10.12
Raw materials, suppliers and sub-contractors
1.10.12.1
A.
The principal raw materials used by the Group in the construction contracting segment
are concrete, various types of iron, stone and also flooring and cladding materials. Some
raw materials are purchased directly by the Group's sub-contractors in the construction
segment.
B.
The Group generally purchases most of the raw materials it requires for its operations in
Israel and for its operations in Russia, on the domestic market, either in Israel or Russia,
as the case may be (excluding cables used to manufacture pressed concrete beams and
178
special stone for wall cladding, which are occasionally purchased directly from overseas
suppliers), from a range of vendors and service providers.1 The Group is dependent on
the regular supply of raw materials for its operations in the construction segment.
C.
Commitments with most suppliers are concluded after offers are obtained from
suppliers and orders are issued, subject to amendments, as agreed between the Company
and the suppliers from time to time.
D.
The Group's terms of its commitments with suppliers for its operations in Russia are
similar to the terms described above pertaining to the terms of the Group's commitments
with suppliers in Israel; however, the Group has commitments with a smaller number of
suppliers in each project in its operations in Russia compared to the number of suppliers
in Israel.
1.10.12.2
Sub-contractors
A.
Most of the Group's operations in construction contracting are performed by
subcontractors. The Group enters into agreement with several sub-contractors in various
fields in each project, pursuant to the specific conditions of each project.
B.
Under its commitments with sub-contractors, the Group generally receives securities,
including bank guarantees, promissory notes and/or other securities. Furthermore, subcontractors declare that they are licensed contractors and hold all permits required by
law.
C.
The Group's terms of its commitments with sub-contractors for its operations in Russia
are similar to the terms described above pertaining to the terms of the Group's
commitments with sub-contractors in Israel; however, the Group has commitments with
a smaller number of sub-contractors in each project in its operations in Russia compared
to the number of sub-contractors in Israel.
1.10.13
Working Capital
Following is a description of the working capital pertaining to the Group's contracting
segments:
1.10.13.1
Due to the availability of the raw materials required by the Group in the contracting
segments, the Group maintains a relatively small inventory of raw materials for
construction, and generally orders the raw materials required for its operations
according to the progress of various projects.
1.10.13.2
The Group's terms of payment to its suppliers and sub-contractors generally range from
EOM + 15 days to EOM + 60 days, with most payments remitted EOM+60 days. The
1
The major part of the concrete used by the Group for the operations of Cebus Rimon, a subsidiary of Danya, is
purchased from a supplier who operates a concrete station in an area of the site on which the Cebus Rimon plant
is located, and leases the area for this purpose as a sub-lessee.
179
average balance of trade accounts payable in Danya’s financial statements in 2006 was
approximately NIS 342.6 millions.
1.10.13.3
The credit granted by the Group to its clients varies by client and project and generally
ranges between EOM+30 - EOM+60. Generally, credit is for EOM+45 days. The
average balance of trade accounts receivable in Danya’s financial statements in 2006
was approximately NIS 274.1millions.
1.10.14
Financing
1.10.14.1
General – in the contracting segments, the Group finances its operations in the
following manners: (1) advance payments received from clients, (2) thr Group's cash
and credit balances, and (3) credit facilities from banks and others.
Furthermore, Danya has long-term debt in respect of Project 431 in the amount of NIS
416.5 million, as at December 31, 2006. For details on the said long-term debt and the
financing of Project 431, see paragraph 1.11.5.1(f) below.
1.10.14.2
Credit restrictions
Under the loan agreements assumed by the Group in the contracting segments, the
following covenants were imposed on the Group:
A.
As a condition for granting credit and guarantees to Danya by the financing entities,
Danya undertook to refrain from registering a floating charge on its assets, either in part
or in entirety, without the written consent in advance by said entities, subject to specific
exceptions. Failure by Danya to meet its obligations toward said entities may lead to a
demand by said entities for immediate repayment by Danya.
B.
For details on the financial covenants pertaining to Project 431, see paragraph
1.11.5.1(f) below.
C.
Utilization of credit facilities granted to Danya is subject to borrower group restrictions
(including utilization of credit facilities in general by the Group) and/or the state of
Danya's business. Furthermore, the loans granted to Danya contain immediate payment
clauses, including clauses pertaining to the state of Danya's business.
D.
Utilization of credit facilities granted to the Group in the contracting segments are
subject to borrower group restrictions (including utilization of credit facilities in general
by the Group) and/or the state of the Group's business. Furthermore, the loans granted to
Danya contain immediate payment clauses, including clauses pertaining to the state of
Danya's business. For details on borrower group restrictions, see paragraph 1.23.3.1
below.
1.10.14.3
The Company's management estimates that in view of the numerous projects in the
infrastructure segment in which the Group may take part, the Group may be required to
expand its recruitment of financing sources. These estimations of Company constitute
180
forward-looking information based on the Group's expected disposable cash balances in
the contracting segments, the scope of credit and guarantees required for the projects in
which it participates, its chances of winning additional tenders to which it submits bids,
either in part or in entirety, estimated project costs, and its ability to raise capital and
guarantees.
1.10.14.4
Financing arrangements among Group companies
In February 2000 an agreement was signed between Danya and Africa Finance whereby
Danya may, from time to time and by mutual consent, place monetary deposits with
Africa Israel Finance (below, “the Deposits”). The Deposits will be “on call” and bear
variable annual interest at the prime rate in effect from time to time with Bank Leumi,
less 1.25% per annum. The Company guarantees the aforesaid liabilities of Africa
Finance.
1.10.14.5
Guarantees
A.
In the framework of its operations as a building contractor, the Group is occasionally
required to furnish various types of guarantees to third parties, including contract
performance guarantees, performance bonds, quality of work guarantees, guarantees
against advance payments from clients, and guarantees for the release of payments held
by the client. Furthermore, the Group is required to furnish guarantees to secure its
participation in certain tenders.
B.
Guarantees furnished by the Group to third parties (excluding guarantees furnished in
respect of Project 431) as at December 31, 2006, amounted to NIS 203.1 million, of
which NIS 183.4 million in bank guarantees, NIS 11.7 million in corporate guarantees
and NIS 8 million in self-guarantees, promissory notes and other sureties.
C.
Total guarantees furnished by the Group in respect of Project 431, as at December 31,
2006 amounted to NIS 341.6 million, of which NIS 104.1 million in corporate
guarantees.
D.
Pursuant to an agreement signed between Danya and the Company in February 2000,
the Company undertook to furnish guarantees in favor of third parties pertaining to
works performed by the Group (through Danya) in the normal course of its business,
excluding financial guarantees (guarantees for loans), at terms defined by said
agreement, including the condition that total guarantees provided by the Company will
not exceed NIS 60 million.
1.10.15
Taxation
For details on taxation in respect of the Group's operations, see paragraph 1.24 below.
1.10.16
Material agreements
In addition to that stated in paragraph 1.10 above, for the operations delineation
181
agreement signed between Group companies, see paragraph 1.1.6.2 above.
1.10.17
Business goals and strategy
Following are details of the Group's business strategy in the contracting segments:
1.10.17.1
The Group regularly examines its strategic plans from time to time and revises its goals
in accordance with the developments in the contracting segments, its client base,
macroeconomic indicators and the structure of competition in the market.
1.10.17.2
The Group intends to continue to pursue it’s the contracting segments in Israel, and also
from time to time to examine business opportunities in real estate, construction and
infrastructure markets (including energy and water) in Israel and overseas.
1.10.17.3
The Group's estimates regarding its goals and strategy are forward-looking information,
based on the Company's assessments of economic and business developments in
contracting segments, taking into consideration past experience. These assessments may
not materialize or may materialize in a manner other than anticipated by the Company,
due to various external factors or due to the realization of risk factors affecting the
Group in the contexts of these areas, among other things.
1.10.18
Outlook for developments over the next twelve-month period
Following is a general description of plans which the Group has resolved to execute in
the contracting segments in the forthcoming year, and which extend beyond the normal
course of business
1.10.18.1
The Group plans, in the normal course of its business, to pursue operations in the
contracting segments in Israel and consider an expansion of its operations to the energy
and water industries. For material tenders in the infrastructure segment to which the
Group has submitted bids, see paragraph 1.11.6.4 below.
1.10.18.2
Furthermore, in this period, the Group intends to examine business opportunities in the
real estate, construction and infrastructure fields (including energy and water) in various
markets outside Israel. In this context, the Group is taking steps to expand its operations
in Russia significantly, to a scope at which such operations may constitute a material
percentage of Group's operations in the future, as set forth in detail in paragraph
1.10.4.4 above and 1.11.6.4(g) below.
1.10.18.3
The Company’s assessments relating to the development outlook for the next twelve
months are forward-looking information based on the Company’s estimates regarding
the economic and business developments in the contracting segments, in light of its past
experience. These assessments may not materialize, or may materialize other than as
anticipated by the Company, inter alia, due to various external factors or due to the
realization of the risk factors applicable to the Group in relation to the above segments
of operation.
182
1.10.19
During the period between December 31, 2006 and March 12, 2007, the Group entered
into additional agreements for the execution of projects, the total anticipated revenues
from which are NIS 324 millions.
1.11
Infrastructure Contracting Segment
1.11.1
In this segment, the Group operates as a concessionaire or building contractor of
transportation infrastructure including roads, railroad lines and bridges. For the Group's
operations in the infrastructure segment, the Group manufactures industrialized
products, including beams for bridges and conduits, through a plant belonging to a
subsidiary (Cebus Rimon). The Group also examines the expansion of its operations in
the infrastructure segment to the water and energy industries.
1.11.2
The Group's operations in the infrastructure segment are performed largely by the
Company's subsidiary, Danya Cebus, which, since 2000, us a public company whose
shares are listed for trade on the TASE.
1.11.3
Through Danya, the Group commenced major activities in this segment in 1999, upon
the execution of a series of agreements between Danya and several parties, through
which the Group (through Danya) participated in the construction of the Cross-Israel
Highway (below, "Cross-Israel Project"). For additional details, see paragraph 1.11.5.2
below.
1.11.4
General information on the infrastructure construction segment
Operations in the infrastructure contracting segment are executed largely for the public
sector, either directly or indirectly, in other words, for the government, governmentowned companies and ancillary units, or for private developers who were awarded
tenders issued by the public sector using the PPP method (private public partnership), in
which the private sector entity executes, finances and operates the project (i.e., BOT or
PFI projects).
1.11.4.1
Restrictions, legislation, standards and special constraints applicable to the
infrastructure segment
A.
Licensing – through Danya Cebus, the Group holds classifications, recognized by the
Registrar of Contractors, which allow it to execute projects in which the Group is
involved in this segment of operations.
B.
Furthermore, the provisions off the standards and restrictions detailed in paragraphs
1.10.3.1(c) and 1.10.3.1(d) above apply to the Group's operations in the infrastructure
segment.
1.11.4.2
Changes in the scope of operations and profitability of the infrastructure segment
The scope of operations in the infrastructure segment is affected by the scope of funds
allocated by the government to the infrastructure sector, and the extent of tenders
183
published by the government. In the past year, government investments in infrastructure
did not change significantly.
1.11.4.3
Critical success factors and changes therein in the infrastructure segment
The Company's management estimates that the major factors that contribute to success
in this segment are as follows: (a) knowledge, experience and the ability to manage and
execute large-scale projects; (b) financial strength, and in projects financed by the
private sector – the ability to obtain credit and financing guarantees at a large scale; (c)
meeting deadlines and standards of performance.
1.11.4.4
Main entrance and exit barriers of the infrastructure industry and changes therein
A.
The main formal entrance barrier into the infrastructure industry in Israel is licensing:
obtaining a contractor's license and registration in the Registrar of Contractors' Ledger.
B.
Several tenders issued by various government ministries require "recognized contractor"
approval, as a preliminary condition of participation. Several tenders define additional
minimum requirements for participation and/or for advancing beyond the preliminary
screening stage of the tender vary by tender, and such requirements, such as providing
guarantees, proof of financial strength, scope of operations and previous experience in
project execution.
C.
In addition to these barriers, the Company's management in the infrastructure segment
believes that additional informal barriers exist in tenders that are not issued by the
public sector, including shareholders' equity and financial solvency, reputation and
previous experience, and these affect a company's changes to be included in the list of
contractors who are invited to tender for work.
1.11.4.5
Structure of competition in the infrastructure segment and the changes therein
In the infrastructure segment, the Group executes projects of a relatively large financial
scope. The companies that compete in tenders of this type are large-scale infrastructure
companies with the knowledge, ability, experience and financing required to execute
projects of this type, which in several cases cooperate with enormous multi-national
companies. According to Dun & Bradstreet publications for the year 2006, Danya
Cebus is ranked among Israel's 5 largest development, construction and infrastructure
companies. The Company's management believes that the market share of the Group's
infrastructure segment in 2006 was several percentage points of the total sector in Israel.
1.11.5
1.11.5.1
Highway 431
A.
On July 11, 2005, an agreement was signed between the State of Israel and a subsidiary
of the Company (below in this paragraph, "the Concessionaire"), concerning the
financing, construction, operation and maintenance of Highway 431 as a PFI (private
184
finance initiative) project (below, in this paragraph, “the 431 Concession Agreement” or
“the Project” or “the Highway”). The 431 Concession Agreement was signed following
the award of the tender, published by the government, to finance, construct, operate and
maintain the Project for 25 years, dated July 24, 2006 (below, "the determining date").
The financial closing of the project took place on July 24, 2006, when the parties
involved, including the Concessionaire, Danya Cebus and a wholly-owned subsidiary or
Danya Cebus (below, "the Operating Company"), signed the primary project
documents, including financing agreements, a construction agreement and an agreement
concerning the operation and maintenance of the project. Furthermore, at this time, an
amendment to the concession agreement was signed by the Concessionaire and the
state.
B.
The Highway is planned as an east-west rapid transit suburban highway connecting
Highway 20 (Nitivei Ayalon South) in the west, and Highway 1 (Jerusalem-Tel Aviv) in
the east; south of Rishon Letzion and Ramleh. The length of the Highway will be 23
km and will include 12 interchanges. The project is valued at NIS 2 billion, of which
construction costs are estimated at NIS 1.5 billion (in December 2004 shekels). This
cost is linked to a basket of indices defined in the concession agreement.
C.
According to the 431 concession agreement, the Concessionaire is responsible, among
other things, to obtain the financing required for the construction of the project, as well
as the construction, operation and maintenance over the concession period. The
Concessionaire will execute project construction through Danya Cebus (which will
function as the prime building contractor of the project); the Concessionaire plans to
execute operation and maintenance through the Operating Company, with Danya's
guarantee. The Concessionaire undertook to construct Highway 431 according to a
defined schedule; failure to meet said schedule constitutes a breach of the provisions of
the concession agreement which may lead to the termination thereof.
Following the completion of the construction, the Concessionaire shall operate and
maintain Highway 431 subject to specific exceptions.
D.
According to the concession agreement, the concession period is 25 years from the
determining date (which is July 24, 2006)(below, "the Concession Period"), of which
the construction period is 2.5 years and the operation and maintenance period is 22.5
years. At the end of the Concession Period, the Concessionaire returns the Highway to
the State at no cost.
E.
In consideration for performing its obligations pursuant to the 431 Concession
Agreement, the State will pay the Concessionaire the following amounts: (1)
Construction grant in the amount of NIS 400 millions payable according to the progress
185
of the construction works, in three installments (below, "Construction Grant"); (2) fixed
semi-annual payments in the amount of approximately NIS 58.9 millions for the
duration of the operating and maintenance period (below, "the Fixed Payment"), and;
(3) the amount of NIS 0.02 in respect of each kilometer traveled by vehicles on the
Highway, commencing on the date the Project is opened to traffic (below, "the Variable
Payment").1
The State undertook to deliver the Project area to the Concessionaire, by sites, on the
dates specified in the concession agreement. Any delay in delivery of sites by the State
will postpone the date on which the Highway is opened to traffic and will entitle the
Concessionaire to an extension of the Construction Period (but not an extension of the
concession period) and monetary compensation.
It should be noted that the State may cancel the Concession Agreement under
various grounds set forth therein.
To secure compliance with its obligations, the Concession undertook to provide to the
State an unconditional, autonomous and irrevocable guarantee in the amount of NIS 80
million. Pursuant to the provisions of the Concession Agreement, the guarantee changes
according to progress in the project.
F.
Financing Agreement – On July 24, 2006, financing agreements were signed by the
Concessionaire and the financier – Bank Hapoalim Ltd – and the remaining project
financers. The said financing agreements provide for the provision of a financing in the
amount of NIS 1.6 billion, according to progress in the project, in the form of several
loans, to be granted pursuant to conditions set forth in the said financing agreements.
As part of the financing arrangements, the Group undertook to provide shareholders'
equity in cash and guarantees in the amount of up to NIS 140 million, at the specified
terms. The Group, through Danya, granted a bank guarantee for the injection of
shareholders equity in the amount equal to 50% of the equity required, and pledged a
bank deposit for this purpose; said bank deposit was recognized after the balance sheet
date.
Among the pledges and securities granted to secure the Concessionaire's compliance
with its obligations, the Company undertook toward the financers to refrain from selling
or transferring its holding in Danya Cebus, until the date the Highway is opened for
traffic, in any manner that entails the transfer of control of Danya, without the approval
1
The Construction Grant and the Fixed Payments are subject to specific adjustments set forth in the 431
Concession Agreement, including adjustments due to changes in yields on bond series, between the submittal
date of the bid and the date on which the Highway is opened to traffic. These payments are in December 2004
shekels and linked to a basket of indices set forth in the Concession Agreement. The Variable Payment is linked
to the CPI over the entire Concession Period.
186
of the financers.
G.
Construction agreement – On July 24, 2006, an agreement for the construction of
Highway 431 was signed by the Group, through Danya, and the Concessionaire. This is
an agreement in a turnkey format, whereby Danya undertakes to construct the project on
a back-to-back basis to the Concessionaire's obligations toward the State pursuant to the
Highway 431 Agreement, at a final price and defined schedules.
The Group, through Danya, undertook to complete the construction works of Section A
and Section E within 27 months, and the remaining sections within 30 months of the
determining date. Upon failure to comply with the specified schedule, the Group is
liable for damages.
The contract fee was set at NIS 1,487 million (including 2 filling stations), but does not
include several items including additional sums that the Concessionaire will receive
from the State. The contract fee is payable, as a rule, pursuant to the progress of the
construction works on the project. An amount equal to 5% of each payment will be held
as delay fees and which may be substituted with a guarantee in the amount of up to NIS
75 million, provided by the Company.
H.
In the framework of the above construction agreement, the Group provided various
guarantees.
I.
In November 2005, the Concessionaire (through the Group) commenced preliminary
project works. Preliminary works were performed by the Group, either independently or
by sub-contractors.
J.
Operating and maintenance agreement – In July 2006, the Concessionaire and the
Group (through Danya) signed a service agreement whereby the Group undertook to
provide various services to the Concessionaire (such as bookkeeping services and legal
consulting).
K.
Service agreement – in July 2006, the Concessionaire and the Group, through Danya,
signed a service agreement, under which the Group undertook to render various services
to the supplier (including bookkeeping and legal consulting services).
L.
Fueling stations – the Concessionaire signed an agreement with Dor-Alon Energy
Israel (1988) Ltd (below, "Dor-Alon"1) regarding the operation and maintenance of two
fueling stations on Highway 431. Pursuant to the agreement, the Concessionaire grants
Dor-Alon a concession to operate the said stations for a period of 10 years from the
completion date of the construction of the stations or the date of the opening to the
public, the earlier of the two dates. At the end of this period, Dor-Alon will have first
right of refusal to operate the fueling stations until the end of the operating period
1
A related company of the Company. See paragraph 1.17.1 below.
187
pursuant to the 431 Concession Agreement. The stations will be constructed by the
Group or by a contractor on its behalf. As at the date of the Periodic Report, the
conditions precedent for this agreement, including, among other things, approval of the
State, have not yet been satisfied.
Furthermore, the Concessionaire signed an agreement for development, consulting and
management services, with a third party, concerning the construction of 4 additional
fueling stations on Highway 431. The stations, if constructed, will be constructed by the
Group or by a contractor on its behalf. As at the date of the Periodic Report, the
conditions precedent for this agreement, including, among other things, approval of the
State, have not yet been satisfied.
M.
The Group is a party to an agreement with the government of Israel concerning the
planning, construction and operation of highway 431. The accounting treatment of the
agreement is pursuant to a representation of the position concerning arrangements for
the construction and operation of public property by the private sector, published in
June 2005 by the Israel Accounting Standards Board. 1
N.
The Company's guarantees concerning the Project – The Company will provide a
performance bond and guarantee substituting for delay fees (below, "the Guarantees")
in favor of Danya Debus (the building contractor), each in an amount equal to 5% of the
contract fee (principal); said amount being linked to the CPI and/or basket of indices as
to be determined with the consent of the entities financing the project. As at December
31, 2006, the principal of the performance bond equals NIS 74.35 million (in December
2004 shekels).2. In exchange for providing the guarantees, and to the extent that they are
extended by the Company, the Company will receive an annual commission of 0.5% of
the amount of each guarantee.
O.
Status – as noted above, the Group commenced construction of the project in 2005. As
at the date of the Periodic Report, the project is proceeding on schedule, and as planned,
with the exception of the following issues:
(1)
A specific site, designated for delivery by the State to the Concessionaire, has not yet
been delivered, due to the discovery of graves on the planned course. At this stage, the
impact of the discovery on the ability to construct the project on the site pursuant to the
original plans and original schedule has not yet been determined. Under these
circumstances, the Company's management is currently unable to assess the impact of
the discovery of graves on the site, including the scope of compensation to which it
would be entitled in respect of a modification of plans. However, persistence of the
1
In February 2006, approval was issued by the Securities Authority, stating that the Highway 431 Project
should be treated as a financial asset, in terms of accounting treatment.
2
The principal of the guarantees may change according to specific events.
188
delay may, according to the estimates of the Company's management, have a significant
adverse effect on project schedules and profitability.
(2)
An administrative appeal was filed in August 2006 against a temporary detour
constructed on the course of Highway 431. The Court denied the appellant's motion for
a temporary injunction against the works, and the main hearing in this case is scheduled
for June 2007.
O.
Danya is subject to risks by virtue of its status as a shareholder in the Concessionaire,
and by virtue of its status as the building contractor and as guarantor securing
compliance by the Operating Company with its responsibility to construct, operate and
maintain the project, estimated at NIS 2 billion. In view of the above, the Project
constitutes a significant risk factor in the Group's operations in this segment.
1.11.5.2.
Cross-Israel Highway
A.
In February 1998, a concession agreement was signed by the government of Israel and
Derech Eretz Highways (1997) Ltd, a subsidiary of the Company (below, "Derech
Eretz"), concerning the construction of 86 kilometers of the Cross-Israel Highway. The
concession period, during which Derech Eretz will operate the highway pursuant to the
said concession agreement is 30 years from the determining date (July 19, 1999),
including the construction period.
B.
The Company, a shareholder in Derech Eretz (37.5%), was also involved in the CrossIsrael Highway project through Danya Cebus, which is a partner (in 33.33% of the
rights) in the construction partnership concerning the construction of the Cross-Israel
Highway ("Derech Eretz Construction Joint Venture", below, "the Construction
Partnership"), which was commissioned with the construction of the Cross-Israel
Highway. Danya also serves as the sub-contractor of the Construction Partnership,
which effectively constructs part of the construction works.
Pursuant to the agreement between the Construction Partnership and Derech Eretz, the
Construction Partnership assumed all the liabilities of Derech Eretz with all regards
pertaining to the planning and the construction of the Cross-Israel Highway.
C.
Section 18 Cross-Israel Highway Project
(1)
The second addendum to the concession agreement between Derech Eretz and the State
of Israel (below, "the Addendum") was signed on January 12, 2006, including Section
18 of the Cross-Israel Highway (below, "Section 18"1) in the concession agreement with
Derech Eretz. In February 2006, an extended concession agreement and an
accompanying series of agreements, subject to the completion of several conditions
1
Section 18 is situated north of the central section, between Nahal Iron (Highway 65) and Wadi Milik
(Highway 70) and its length is 18 kms.
189
precedent pertaining to the Section 18 project, were also signed.
(2)
Derech Eretz established a wholly owned subsidiary for the construction of Section 18,
including the financing and construction of the project (below, "Derech Eretz 18").
(3)
For the purpose of executing the Section 18 project, Derech Eretz entered into an
agreement with Derech Eretz Joint Venture 18 Partnership, registered in January 2007
(below in paragraph 1.11.5.2, "Section 18 Partnership"), whose partners are Danya
(whose share in Section 18 Partnership is 50%), Solel Boneh Ltd (a subsidiary of
Housing & Construction Holdings Ltd) and Solel Boneh – Development and Roads Ltd
(a wholly owned subsidiary of Solel Boneh Ltd), whose share in the Section 18
Partnership is, singly and jointly, 50%. The Section 18 Partnership assumes all the
liabilities of Derech Eretz 18 under the extended concession agreement with all regards
to the construction of Section 18.1
(4)
In contrast to the Cross-Israel Highway project, in the Section 18 Project described
above, planning is performed entirely by the State, while the Section 18 Partnership
assumes all liabilities pertaining thereto.
(5)
The series of agreement pertaining to Section 18, described below, is subject to several
conditions precedent.
(a)
Partnership agreement – this agreement regulates the relationship between the partners
in Section 18 Partnership, and between them and third parties; each partner is liable
towards Derech Eretz 18 and/or third parties, jointly and singly, in respect of all
obligations of Section 18 Partnership pertaining to the construction agreement. In the
internal relationships between the parties, the parties' shares in rights and liabilities are
pro rata to their respective holdings in the partnership. The partnership undertakes to
furnish guarantees of their parent companies to secure performance of their obligations.
(b)
Construction agreement – this agreement, between Derech Eretz 18, on one part, and
Section 18 Partnership and its members (singly and jointly), on the other part, regulates
the construction of Section 18 including the toll system, as a back-to-back agreement
with the assumption of Derech Eretz 18's obligations by virtue of the said extended
concession agreement, to the extent that they are relevant to the planning and
construction of Section 18 (below, 'the Construction Agreement"). The consideration in
respect of performance of the obligations under the Construction Agreement is NIS
554.9 million, linked to the CPI of November 2004, and the amount of NIS 32.2
million, linked to the US Consumer Price Index of November 2004.2
1
It should be noted that the parent company of the Canadian shareholder of Derech Eretz is not a partner in the
said partnership; consequently it was resolved that it would therefore be eligible to receive a payment in the
amount of USD 3.5 million payable by the Partnership.
2
The agreement price includes all the risks and costs related to planning, construction, repair of defects and all
other aspects of the construction works of Section 18.
190
The last date for material completion was set for 33 months, under the terms defined in
the said agreement, on the later of the following dates:1 the date of the signing of the
(second) addendum to the concession agreement; the validity date (the date on which
one of the conditions precedent set forth in the said addendum obtains); and the date on
which the section of the Section 18 site is delivered to Derech Eretz. If Section 18
Partnership completes the construction works prior to the end of the said 33-month
period, it is eligible for a bonus in the amount equal to 75% of the revenues generated
by Derech Eretz 18 from the circumstances in Section 18, in respect of the early
completion of works.
The sub-contracting agreement – the sub-contracting agreement are agreements between
Section 18 Partnership and Danya, and between Section 18 Partnership and between
Solel Boneh Ltd, whereby each of the partners is commissioned to perform part of the
works of Section 18, back-to-back with the obligations of Section 18 Partnership
pursuant to the Construction Agreement. Under the sub-contracting agreements
expected to be signed between Section 18 Partnership and Danya, Danya will undertake
to perform the civil engineering works for the construction of the highway that
constitutes Section 18. The works to be performed by the Group, through Danya, under
the sub-contracting agreement, are valued at NIS 105 million.
(c)
Preliminary work agreement – an MOU is expected to be signed between Derech Eretz
18 and the State, under which the State, as early as prior to the financial closing, will
permit Derech Eretz 18 to commence preliminary works. Accordingly, an agreement
regarding the performance of preliminary works is expected to be signed between
Section 18 Partnership and Housing & Construction (which entered into an agreement
with Derech Eretz 18 for this purpose). The consideration will be paid according to
progress of the work, up to a cumulative amount of NIS 70 million.
(d)
Sub-contracting agreement for the construction of the toll system – the parties to this
agreement are Section 18 Partnership, on one hand, and a company that will be
established for this purpose and wholly owned by Derech Eretz Management
Corporation Ltd (below, "the Operator") (a company owned by the shareholders in
Derech Eretz such that each of the above companies is an interest party in the Operator),
on the other hand. Under this agreement, the Operator assumes all the obligations and
risks of Section 18 Partnership under the construction agreement, with all regards to the
execution of the toll system in Section 18, under specific restrictions. The price of the
said agreement is USD 12 millions, and VAT and linkage differentials,.
(e)
Direct agreement – under the direct agreement, Section 18 Partnership approves that if
1
The agreement will define the payments due in the event of failure to meet the schedules.
191
Derech Eretz 18 breaches any of its financing agreements (which define the
representations, undertakings and management terms of the Section 18 Project to which
Derech Eretz is subject), the financing institutions may take steps, including the
discontinuance of financing for the project, exercise of guarantees, discontinuance of
approvals on bills payable, and other steps that may cause the Concessionaire to breach
its obligations toward Section 18 Partnership under the construction agreement. .
(f)
The entering into the agreements and the terms thereof described in this paragraph are
forward-looking information the materialization of which is uncertain. The said
information is based on the Group's assessment in this segment concerning negotiations
in progress, and may not materialize if the conditions precedent for the construction of
Section 18 Project are not satisfied and/or if the said negotiations fail to ripen into
binding agreements and/or if the required approvals for the performance of the said
agreement are not obtained (including approval by the State and approvals by the State
organs required by the Companies Law).
For additional details on the Cross-Israel project, including Section 18, see paragraph
1.19.3 below.
D.
Candidacy for additional tenders – As part of the Group's operations in the
infrastructure segment, the Group submitted bids and/or candidacy for several
additional tenders, whose winners have not yet been announced. If the Group is
awarded one or more of these tenders, this may significantly increase the scope of
infrastructure works that will be performed by the Company in the forthcoming years.
E.
Nehsarim Interchange – As at the date of the Periodic Report, Danya is negotiating
with Derech Eretz on the execution of works on the Nesharim Interchange, connecting
the Cross-Israel Highway and Highway 431. The anticipated scope of work is NIS 120
million. The information in this paragraph is forward-looking information which may
not materialize if the said contract is not signed, or if it is not approval pursuant to the
requirement of the Companies Law, or if a need to modify the scope of the works
emerges.
1.11.6
Clients
1.11.6.1
The major part of the Group's operations in the infrastructure segment is generally
performed under director or indirect agreements with the government sector. In most
projects, the Group (through Danya) performs infrastructure construction works,
receives in consideration a fixed amount, and bears no project risks. Nonetheless, in
PPP projects such as the Highway 431 project, the agreement method is different and
may include elements such as project planning, financing and operating.
192
1.11.6.2
In this segment, contracting agreements with clients have features that are similar to
those in the construction segment, with several exceptions, see paragraph 1.10.5.3
above.
1.11.6.3.
Following are details on the breakdown of revenues from infrastructure clients, by
sector:
1.11.6.4
Clients
Share of total revenues in the infrastructure
segment
2006
2005
2004
Private sector1
--
6%
55%
Public sector
100%
94%
45%
Following are details on tenders of a significant scope in the infrastructure segment, in
which the Group is either bidding or negotiating, as at the date of the Periodic Report:
A.
Train electrification – This is a contracting project to convert part of the Israeli train
system to electric operation, based on a tender published by the Israel Train. The project
is valued at several hundreds of millions of Euro, although its final scope is not yet
clear. The group in which the Company is a partner (in equal shares with two additional
companies) passed the preliminary selection stage. The submission date for bids in this
tender is in April 2007.
B.
Highway 531 - This project involves the construction of 15-kilometer long, rapid
suburban east-west highway to connect between the Cross Israel Highway in the
vicinity of Horashim Interchange, and the Coastal Road, through Ra’anana, Hertzliya
and Ayalon Highway. The project includes infrastructure for train tracks alongside the
highway, interchanges along the highway and a traffic control system, at an estimated
scope of over NIS 3 billion.
In the infrastructure segment, the Group passed the preliminary selection stage. The
submission date for bids in this tender is in August 2007.
C.
Tel Aviv City Train – This is a BOT project for the financing, construction, operation
and maintenance of the Red Line of the Tel Aviv City Train. The Red Line is the hub of
the passenger transport system planned for the Tel Aviv Metropolitan, from the Petah
Tikva central station through Bnei Brak, Ramat Gan, Tel Aviv-Jaffo to Bat Yam. This is
a two-track line of 22 kms in length, 11 km of which will be in a double underground
tunnel. The Red Line will include 33 stations, 10 of which will be underground. The
concession period in this tender has been defined as 32 years (including the construction
period). For details, see paragraph 1.22 below.
1
In 2006, revenue from the Group's partnership was negligible and stemmed from the Cross-Israel Project.
193
As at the date of the Periodic Report, no concession agreement has been signed, and a
construction contractor [company] has not been established, and no agreement
regulating the said construction work has been signed.
D.
Tunnels for the Jerusalem A1 Railway Line – This is a contracting tender issued by
the Israel Train for the construction of a pair of tunnels (each of 13 kms in length) on
the A1 railway line to Jerusalem. The scope of the tender is estimated at hundreds of
millions of US dollars. The group in which the Company (through Danya) is
participating, has passed the preliminary selection stage. The date for submitting bids is
in march 2007. The Company intends to submit a bid in this tender jointly with a
foreign company that will hold 70% of the rights in the partnership, while the Company
(through Danya) will hold 30% of the rights in the partnership.
E.
Additional tenders – The Israel Train is considering the issuance of two additional
tenders, as part of the line to Jerusalem and the Carmiel-Acco line, in which Company
(through Danya) passed the preliminary selection stage.
F.
Toll road in India – This is a tender for the construction of a toll road in India,
including the construction, financing and operation of the said road, of a scope
estimated at several hundreds of millions of US dollars. To the best knowledge of the
Company's management, no final determination has been made on the concession
period. The Group bid in the preliminary selection stage jointly with a local partner.
G.
Toll road in Russia – The Group is in the preliminary selection stage in a tender for the
construction of a toll road in Russia, and is considering participation in an additional
tender, when the latter is issued. The complete tenders have not yet been issued.
H.
If the Group is awarded one or more of the tenders described above, which are of a
significant monetary scope, there may be a need to raise capital and guarantees at a
significant scope to finance said tenders. In the matter of restriction on borrower groups,
also see paragraphs 1.10.14.2(c), 1.10.14.2(d) and 1.12.3.1 above. Furthermore, there
also may emerge a need to recruit additional manpower and engineering equipment,
including advanced engineering equipment requiring significant costs, in order to
execute the said projects. The information in this paragraph regarding the scope of the
tenders contains forward-looking information and is based on the information provided
by the tender issuer and the Group's estimates regarding the financial scope of the
tenders, based on the information available to the Group. This information may not
materialize if the final terms of the projects are modified, or if the Group's estimates
regarding costs fail to materialize.
1.11.7
Contracts are usually obtained by submitting bids in tenders published primarily by the
194
government sector (see paragraph 1.11.4.1 above).
1.11.8
Orders Backlog
1.11.8.1
The Group's orders backlog in the infrastructure segment as at December 31, 2006
amounted to NIS 1.2 billions compared to NIS 1.7 billions at December 31, 2005. The
following is the estimated breakdown of execution of the orders backlog in the
infrastructure segment, by anticipated period of income recognition:
1.11.8.2
Q1/2007
Q2/2007
Q3/2007
Q4/2007
2008
140
180
210
180
536
In the period from December 31, 2006 until immediately preceding the date of the
Periodic Report, Danya entered into several additional agreement for the execution of
the Section 18 Project, estimated at NIS 410 millions (Danya's share as at the date of the
Periodic Report). Execution of the project is subject to conditions that have not yet been
satisfied. For additional details, see paragraph 1.11.5.2(c) above.
1.11.8.3
The anticipated timing of recognition of income generated by the orders backlog is
forward-looking information which may not materialize or materialize other than as
anticipated in view of the risk factors affecting the Group's operations, additional factors
affecting project execution duration, including customer flexibility regarding changes to
timetables, the availability of funds for project execution, the timing at which the State
makes the lands available for work, and the handling of the [archeological] findings
(furthermore, changes in accounting standards may affect the method of income
recognition and consequently affect the orders backlog and the realization thereof).
1.11.9
Competition
1.11.9.1
According to publications by Dun & Bradstreet for the year 2006, 6he Group’s principal
competitors in the infrastructure segment are as follows: Solel Boneh, Ashtrom, Shafir,
A. Arenson, Minrav, Ramet and A. Lieber. As stated, there are other, smaller
infrastructure companies, not named in this paragraph, also compete with the Group in
the infrastructure segment.
1.11.9.2
The Group’s financial capabilities in this segment, as well the extensive know-how,
experience and project management abilities that it has accumulated in this segment,
enable it to compete for the construction of large-scale projects.
1.11.10
For details on fixed assets and installations in the infrastructure segment, see paragraph
1.10.9 above.
195
1.11.11
Intangible assets
For details on intangible assets in the infrastructure segment, see paragraph 1.10.10
above.
1.11.12
Human capital
For details on human capital in the infrastructure segment, see paragraph 1.10.11 above.
1.11.13
Raw materials, suppliers and sub-contractors
1.11.13.1
A.
The principal raw materials used by the Group in the infrastructure segment are various
types of concrete and iron. In addition, there are principal raw materials that are
acquired directly by the Group's subcontractors, such as aggregates and quarried
materials, asphalt mixtures, bitumen and various concrete products. The Group
purchases these raw materials on the domestic market from the suppliers from whom it
also purchases inputs for its operations in the construction segment. The Group is
dependent on the regular supply of raw materials for its operations in the infrastructure
segment.
B.
The Company's contracts in this segment with sub-contractors are similar in nature to its
contracts in the construction segment (see paragraph 1.10.12.2 above).
1.11.13.2
Sub-contractors
The nature of the Group's undertakings with sub-contractors in the infrastructure
contracting segment is substantially similar to those in the construction segment (see
paragraph 1.10.12.2 above).
1.11.14
Working capital
For details on working capital in the infrastructure segment, see paragraph 1.10.13
above.
1.11.15
Financing
1.11.16
For details on financing in the infrastructure segment, see paragraph 1.10.14 above.
1.11.17
Taxation
For details on the taxation on the Group's operations, see paragraph 1.24 below.
1.11.18
Material agreements
For the operations delineation agreement between Group companies, see paragraph
1.1.6.2 above.
1.11.19
Goals and business strategy
For details on the Group's goals and business strategy in the infrastructure segment, see
paragraph 1.10.17 above.
1.11.20
Outlook for developments over the upcoming twelve-month period
See paragraph 1.10.18 above.
196
1.12
The Textile Segment
1.12.1
The Group’s activity in the textile is implemented through Gottex Models, Ltd.,
Christina America Inc., Gottex Brands (a registered partnership) and Gottex Fashions,
Ltd. held (indirectly) by a foreign company. The company holds 50% of the rights in
the capital and voting in the aforesaid company. Canadian investors who are active in
the fashion segment hold the remainder (hereinafter, “The Canadian Partners”).
The aforesaid companies, held by the Company, are relatively consolidated in its
financial reports. The financial data for these companies are presented in full (100%) in
Paragraph 1.12 below.
The Group has two main groups of products and services in the textile segment, as
listed below:
Swim-wear, beach-ware and shape-wear
The Group designs, manufactures and markets beach-ware and shape-wear (jointly,
hereinafter, “Beach and Shape-wear”). The aforesaid activity is implemented by the
Group through Gottex Models, Ltd. (from hereinafter, “Gottex Models”), which
specializes in design, manufacture and marketing of swimwear intended mainly for the
haute couture in Israel and overseas through Christina America Inc. (from hereinafter,
“Christina”), that specializes in designing, manufacturing and marketing of quality
swimwear for the popular market in Canada and the USA, As well as designing,
manufacturing and marketing of shape-wear in dozens of countries across the globe.
Marketing of the “Zara” and “Pull and Bear” labels in Israel
The Group engages in the retail sale of international fashion labels, “Zara” and “Pull
and Bear,” through a franchise from the Spanish fashion corporation, Inditex S.A
(hereinafter, “Inditex” or “Inditex Group”). The aforesaid activity is implemented
through Gottex Brands – are registered partnership and Gottex Fashions Ltd.
(hereinafter together: “Gottex Brands”).1
1.12.2
Shareholders agreement concerning the segment’s activity
The relationships between the Company and the Canadian partners concerning their
holdings in the foreign company is arranged under an agreement of principles that was
signed in July 2001, which has since been amended a number of times (the Agreement
on Principles with its amendments and additions will be called hereinafter,
“Agreement on Principles”). The Agreement on Principles determines, inter alia, the
financing arrangements, the guarantees, the indemnification undertakings, the division
of profits between the parties, and management arrangements in all matters pertaining
1
Gottex Models holds 99% of the capital stock issued by Gottex Brands – a registered partnership and Bat
Savyon Ltd. (which is a wholly owned company held by the Company) holds 1% of the issued capital stock.
Gottex Fashions Ltd. is a wholly owned company held by Gottex Models.
197
to this sub-segment, and including in relation to the aforesaid factors in the textile
segment including the acquisition of shares in Christina, the acquisition of shares in
Gottex, the acquisition of the activity of “Zara” and “Pull and Bear” in Israel, the
acquisition of the assets of Klil Yofi Model Ltd and Gideon Oberson Beachwear Ltd.
From the receiver (as detailed in Paragraph 1.12.4.3 below), the financing of the
aforesaid activities, the appropriation of retained earnings, and the distribution of
profits and arrangements on realization of the holdings.
Also provided by the Agreement on Principles, is that subject to certain specific
exceptions, the provision of financing and/or assumption of liabilities in respect of the
provision of the financing to these companies and/or in connection therewith shall be
shared equally by the Company and the Canadian partners. And that as a principle,
subject to exceptions, in respect of financing of surplus guarantees provided by the
Company, is that the Canadian partners shall be liable toward the Company, to
indemnify it in respect of amounts it has provided and/or that it is ordered to pay and
which exceed the amounts that the Company was to provide on the basis of its equity
(50%) and vice versa. As to the distribution of profits, the agreements provides that in
case of realization of the parties’ holdings in the aforesaid companies, the Canadian
partnership shall enjoy a degree of priority regarding a portion of the profits, subject to
certain specific conditions.
1.12.3
General information on the segment’s activity
1.12.3.1
The textile segment’s structure and changes therein
The processes of globalization and removal of trade barriers under international
agreements and the open markets policy that is customary in Israel since the beginning
of the 1990’s, have markedly increased competition which the textile industry in Israel
has to confront the markets now open to imports from developing countries, mostly
from Asia. In order to preserve their profitability, the manufacturers are required to
lower their manufacturing costs, among other things, by transferring the production
processes to places where labor wages (which is a significant component of the
manufacturing costs in textile products) are lower (mainly in Asia). Part of the
confrontation with increased competition, the manufacturers need to develop
competitive advantages by introducing technological innovations, among other things,
with the raw materials being used and the means of production, unique designs and
investing in marketing resources in order to bran and differentiate their products.
1.12.3.2
Limitations, legislation, standardization and special constraints in the textile industry
Activity in the textile segment, is subject the general law concerning import, customs,
consumer protection, product marking and labor laws and licensing as far as
198
manufacturing and wholesale activities are concerned. The limitations by law, inter
alia, are applicable to the Group’s products, concerning marking prices, components,
ingredients, washing instructions, in accordance with the Supervision of Goods and
Services Law,-1957 and the ordinances that were enabled by virtue of that law
(hereinafter, “Supervision Law”) and in accordance with the Consumer Protection
Law,-1981 the ordinances that were enabled by virtue of that law (hereinafter,
“Consumer Protection Law”).
In addition to the aforesaid, some of the textile products require prior approval from
the Standards Institute. In addition, the swimwear activity is subject to specific
instructions by virtue of international ordinances concerning the durability and
colorfastness of fabrics in chlorinated water.
1.12.3.3
Market developments or changes in customer characteristics in the textile trade
The exposure of Israel’s market to imports from overseas have required Israeli
manufacturers to intensify their efforts to increase exports and to focus on products that
address the middle and high-end market segment. This is in view of the fact that these
segments are less sensitive to price versus the popular market segment, and grant
greater weight to quality and design.
1.12.3.4
Technological changes that have a fundamental influence upon the textile trade
During the past few years, there has been a recognizable improvement in the
manufacturing and design capabilities by Far East manufacturers. This trend has led,
among other things, to intensify the competition that manufacturers around the world
face, mainly concerning the production aimed at the popular market segment, which, as
we noted above is relatively more sensitive to the product price. In light of the
aforesaid, many manufacturers began to change their mode of activity from production
to importing finished products and to develop more efficient production methods and
products that are uniquely innovative in their design and technology.
1.12.3.5
Critical success factors in the textile trade and the changes that have taken place
In the secondary segment of swimwear and shape-wear, one can point to a number of
critical success factors. Amongst them are continuous innovation and uniqueness,
variety in marketed styles, swift response to the changing trends in the relevant
markets, branding and distinction, methodically analyzing information, meticulousness
about product quality, a firm but flexible manufacturing infrastructure, adherence to
delivery schedules when shipping collections at the suitable dates (including the proper
planning of inventories, both of raw materials and finished products) and proper
adjustment of the product prices sold to the potential customers. Some of the factors
noted above are especially dominant in all that is tied to swimwear and somewhat less
199
for shape-wear.
In the secondary segment of fashion labels, one can point to a number of critical
success factors. Amongst them are fitting the products to the potential customers’
changing preferences and providing a quick response to changing trends while rigorous
about innovation, continuous investing in marketing strategy, branding and distinction,
among other things by stressing international characteristics, national deployment of
stores, proper product pricing and setting up an advanced logistics array. During the
past years, there is a noticeable trend in the increased international activity by Israeli
chains by opening stores overseas.
1.12.3.6
Changes in the array of suppliers and raw materials in the textile segment
As aforesaid, exposing the Israeli market to imports has moved the textile
manufacturers to move their production processes to developing countries. The
production processes overseas are implemented in plants that are owned (in full or in
part) by the Israeli manufacturers or by purchasing the finished products from local
manufacturers. The aforesaid changes affects the sources from whom they purchase the
raw materials with the proportion of raw materials manufactured in Israel significantly
diminished versus the raw materials purchased overseas.
1.12.3.7
Entry and exit barriers in the textile segment and changes therein
There are technological limitations to the entering activity in the realm of swimwear
and shape-wear because of the relative stringent entry requirements of the potential
customers in the relevant markets concerning product quality, including by this the
quality of the cutting and stitching. Yet, the development that has begun in the
manufacturers’ production capabilities, mainly in the Far East, has reduced the
influence of this entry barrier.
A central entry barrier concerning the entry into the real of marketing brand name
fashions, as a rule, is the need for a significant amount of capital for establishing a
label sold to the stores deployed across the country and centrally locating them.
The entry barrier for the textile segment in general is the required investment to set up,
a design array, product marketing, and distribution.
1.12.3.8
The competition structure in the textile segment and the changes therein
The competition concerning the group of swimwear products is characterized today
mostly in trying to locate sub-contractors who will carry out the product manufacture
at the lowest cost while keeping to quality standards. Alongside this, the competition is
characterized by an attempt to achieve a competitive advantage by creating unique
designs, branding and distinguishing the products versus the competing ones.
The competition concerning the group of fashion label products is characterized today
200
mainly by the attempt to keep the uniqueness of the fashions labels as a leading
international label versus the growing endeavors by competing fashion chains to
establish themselves as international labels.
The group of swimwear and shape-wear products
1.12.4
1.12.4.1
The group designs, manufactures (whether by the companies themselves or through
sub-contractors) and markets women’s swimwear and beachwear and women’s shapewear in Israel and overseas under different labels. Sales in Israel are to wholesalers as
well as to retailers. Sales overseas (mainly to Europe and in North America) are to
wholesalers and marketing chains, independently and through distributors. Some of the
sales to marketing chains in North America are of swimwear under their private label
(hereinafter, “Private Labels”).
1.12.4.2
An important component in the swimwear product segment is to produce each year a
broad range of swimwear and beachwear styles. Each year the Group develops some
120 styles of swimwear and beachwear. Since shape-wear are year round products and
have a longer shelf life have a lower rate of change, their style changes and number of
styles are relatively lower.1
1.12.4.3
During September 2003, the Group purchased the assets of Klil Yofi Model Ltd. and
Gideon Oberson Swimwear Ltd. from the companies’ receiver (hereinafter, “Klil Yofi
Transaction”). The main assets purchased under the transaction were: Brand names
of the labels – “Gideon Oberson” (with all its variations), "Turquoise,” “Pilpel” (in
English and Hebrew), the intellectual property, fixed assets, reputation, customer and
supplier lists. Together with executing the Klil Yofi transaction, the Group engaged
with Mr. Gideon Oberson (hereinafter, “Oberson”) in an agreement to provide design
services for the Gideon Oberson label. The agreement is for an unlimited period while
the Group is entitled to cancel the agreement as it sees fit, subject to royalty payments
in the case of the agreement’s cancellation.
1.12.4.4
The style design for all of Gottex Models swimwear is carried out in its design
department at its plant in Or Yehuda. At the time of the Periodic Report, the
department employed 37 workers. In August 2004, Gottex Models engaged in an
agreement with Oberson to provide design services for the Gottex label, which is its
leading one. The agreement is expected to end in April 2007. This agreement is in
addition to the one with Oberson from September 2003 described above, For the
design of swimwear and beachwear styles under the label “Gideon Oberson.” In
addition, the Group engages, from time to time, with other designers for designing
1
The Group markets a single label of shape-wear with some 20 styles.
201
other labels.
The design department at the plant in Montreal, Canada carries out the swimwear and
shape-wear design for Christina. Under this, at the time of the Periodic Report, some
15 employees worked there.
1.12.4.5
Below are presented the data concerning the Group’s scope of swimwear and shapewear sales for the years 2004, 2005 and 2006:
Sales (in NIS million)
Year
2004
2005
2006
Swimwear &
Beachwear
346.769
338.659
339.266
Shape-wear
32.906
40.166
40.012
Total Swim &
Shape-wear
379.675
378.825
379.278
From the above data, the decisive majority of the sales are in swimwear.
Shape-wear sales consisted of 8.67%, 10.6% and 10.55% of the total
swimwear and shape-wear sales in the years 2004, 2005 and 2006
respectively.
1.12.4.6 Below are the details concerning the percentage of the Group’s sales for
swimwear and shape-wear during the years 2004, 2005 and 2006 from the
total sales of swimwear and shape-wear by style and market:
202
Label
Market
Gottex
Gottex
Gottex Silver
Gideon
Oberson
Gottex
Pilpel
Gideon
Oberson
Others
Christina
Christina
Christina
XOXO
XOXO
XOXO
Skechers
Skechers
Skechers
Body Wrap3
Body Wrap
Body Wrap
Private Labels
Private Labels
Private Labels
USA
ROW1
ROW
1.12.5
2004
2005
2006
% of the Total Sales of Swimwear and Shape-wear
10.35%
10.95%
9.5%
7.75%
8.66%
11.17%
1.82%
---
ROW
5.36%
5.01%
6.2%
Local
Local
2.06%
0.75%
2.28%
1.82%
1.65%
1.65%
Local
0.94%
0.91%
0.83%
General
USA
Canada
ROW2
USA
Canada
ROW
ROW
USA
Canada
ROW
USA
Canada
ROW
USA
Canada
16.53%
9.26%
8.34%
0.06%
2.60%
1.06%
0.02%
0%
0.23%
0.2%
0.71%
5.66%
2.84%
-11.95%
11.51%
15.95%
7.61%
9.44%
0%
1.65%
1.08%
0%
-0.18%
0.63%
0.32%
5.95%
3.32%
-12.1%
12.14%
10.33%
9.68%
11.17%
0.18%
1.52%
1.5%
0.02%
-0%
0%
0.62%
3.00%
1.21%
0.04%
18.39%
11.34%
Customers
In this segment, the Group is not dependent upon any single customer or small number of
customers whose loss would fundamentally influence this activity segment.
1.12.6
The marketing and distribution activity for swimwear and shape-wear products are
carried out as follows:
1.12.6.1
Marketing and distribution in Israel
A.
The Group’s employees who work as sales promoters carry out the marketing and
distribution to independent stores in Israel.
B.
The marketing and distribution to the end consumer through Gottex Models’ plant store
in Tel Aviv began in March 2006 through the swimwear departments of the New
HaMashbir Ltd. (hereinafter, “HaMashbir”), to which Gottex Models engaged (in
January 2006) in an agreement (with its amendments) to set up and manage points of sale
1
In this table in this paragraph, ROW refers to the rest of the world (except the USA and Israel).
In this table in this paragraph, ROW refers to the rest of the world (except the USA and Israel).
3
Under this label, the Group sells some 20 styles of shape-wear.
2
203
for swimwear and beachwear in HaMashbir’s stores as a store within a store.1
C.
The Group arranges marketing activity and public relations, amongst other things,
through producing catalogs, advertisements in the printed newspapers and holding
fashion shows.
1.12.6.2
Marketing and distribution overseas
A.
Marketing and distribution in the USA through Gottex Models’ wholly owned company,
registered in New York State and engages in the marketing of Gottex Models in the
USA.
B.
Marketing through thirty regional distributors all over the world, who buy merchandise
from Gottex Models and market it to the end consumer. The connection with the
distributors is through the Group’s employees.
C.
Gottex Models has engaged with sub-contractors in Europe and the USA to provide
general logistic services, which includes, among other things, storage of swimwear and
handling shipments to customers.
D.
Christina’s marketing activity is carried out at two points: From the head office in
Montreal for Canada and the rest of the world and an office in New York for the USA.
The distribution is also carried out from two warehouses:
From the warehouse in
Montreal for [distribution to] Canada and the rest of the world and from a warehouse in
Plattsburg, New York in the USA.
E.
The Group arranges marketing activity and public relations, amongst other things,
through producing catalogs, advertisements in the printed newspapers and television and
holding fashion shows.
1.12.7
Orders backlog
The Group’s orders backlog for swimwear and shape-wear are detailed below:
1.12.7.1
The orders backlog as of March 15, 2007 totaled some NIS 72.9 million.
1.12.7.2
The orders backlog as of December 31, 2006 totaled some NIS 172 million. Below is a
breakdown of the aforesaid orders backlog (in NIS million) by the estimated recognition
period of the expected revenue:
Q1 2007
134
1.12.7.3
Q2 2007
34
Q3 2007
5
Q4 2007
--
The orders backlog on December 31, 2005 was about NIS 181 million. The Company
recognized approximately NIS 102 million of the orders backlog for the first quarter
of 2006 as actual revenue, with the remainder in the second quarter of 2006. In the
Company’s Periodic Report for December 31, 2005, the Company assessed that a
1
The period of the first agreement ends in October 2008 and will be automatically extended for an additional
three (3) years (subject to the right of cancellation by any one of the parties through a notice beforehand).
204
sum of NIS 81 million will be recognized for the first quarter of 2006.
It is to be noted that expectations concerning income recognition periods is futurelooking information as defined by the Securities Law, and is based upon analysis of
the Group’s orders backlog in past years and upon the Group’s forecasts and
assessments of its customers’ economic strength. These assessments, as aforesaid,
may not be realized, or they may realize in a manner different than expected should
the Group’s customers, in whole or in part, do not meet their obligations to purchase
the orders backlog attributed to them, for reasons unknown to the Company at the
time of the Periodic Report.
1.12.8
Competition
1.12.8.1
The swimwear market is characterized by high competitiveness deriving from,
among other things, the developments described above in regards to the improvement
taken place in the ability of manufacturers from developing countries, mainly in
Asia, to produce quality products.
1.12.8.2
The Group has many competitors in the sale of swimwear products. The main ones to
be listed are: The Italian "La Perla", the French "Eres", the German "Maryann" and
the following American firms, "Baltex", "Jason", "Schreiber", "Apparel Ventures"
and "Johnson".
1.12.8.3
In Israel, the competition is from importers in the middle and popular market
segment. It is the management’s assessment that the level of the Group’s activity can
be considered to be significant in scope relative to the scope of its competitors’
activity. Still, it is the management’s opinion that the aforesaid information is
irrelevant in the specific circumstances, since the market that the Group is active in is
the global one and since the Group’s main activity is overseas. The Group’s market
share in the global market in which it operates, and which is its main market, is
negligible.
1.12.8.4
The Group confrontation with market competition in the swimwear segment is
carried out moving over to manufacture through sub-contractors (in Israel and
overseas) in order to reduce costs, assembling quality design departments as far as
manpower is concerned, investing in direct and indirect (public relations) advertising,
safeguarding quality control and reputation.
1.12.8.5
In shape-wear activities, some of the competition’s characteristics are different from
what is found by swimwear as this is a product with long-lived, among other things,
since it is not seasonal and the styles change more slowly. The competition is mainly
over distribution channels and marketing.
205
Amongst the Group’s competitors that can be listed are: Maidenform", "Spanx",
"Jockey", "Wacoal" and “Liz” as well as the marketing chains’ private labels.
The Group mainly confronts the competition through safeguarding quality control of
its products and establishing the label’s reputation.
1.12.9
Seasonality
1.12.9.1
Swim and beachwear are by their nature, seasonal products. Therefore, season has a
crucial influence upon the sales volume and earnings over the years changing
seasons.
On the other hand, shape-wear is multi-seasonal with a long shelf life, so seasonality
has no essential influence upon the product’s sales volume.
1.12.9.2
Below are the data on the sales volume by seasonal cut (in NIS millions) for
beachwear and swimwear (the data does not refer to shape-wear, which, as aforesaid,
are not influenced by seasonality.
Year
Q1
January-March
Q2
April-May
Q3
June-August
Q4
September-December
2004
2005
2006
126,501
96,676
107,193
90,257
58,980
104,355
39,376
71,752
59,742
90,630
71,752
67,974
1.12.10
Production capacity
1.12.10.1 As aforesaid in Paragraph 1.12.3.1 above, in light of the globalization processes
and the removal of trade barriers under international agreements, which
significantly increased the competition that the textile industry has to confront due
to the exposure of the markets to imports from developing countries, since 2004
the Group works to reduce its own manufacture by having it carried out by subcontractors and the purchase of finished products.
During the years 2004, 2005 and 2006, about 70.5%, the Group produced 60%
and 32% respectively of the total sales for swimwear and shape-wear. In light of
the trends, as aforesaid, the production limit is not an influential factor on the
Group’s activity concerning swimwear and shape-wear. It is to be noted that art of
the Group’s self-production that were reduced over the past years are renewable
within a time span of a few weeks.
1.12.10.2 At the time of the Periodic Report, the Group’s maximum annual production
capacity for swimwear, beachwear and shape-wear is 2.1 thousand units1 per
calendar year.
1
A unit in this paragraph refers to a complete swimsuit, shape-wear, beachwear or bikini set including the top
and bottom.
206
During the years 2004, 2005 and 2006, the Group utilized its full self-production
capacity. It is the Group’s intention to continue to reduce the scope of production
using its own facilities.
1.12.11
1.12.11.1 Gottex Models’ factory outlet in Tel Aviv is located in a building (three stories)
under its ownership. Aside from the aforesaid factory outlet, the Group does not
have any real estate under its ownership in this secondary segment. All its other
activities (in offices, factories, warehouses and stores) are in leased premises
(mostly by multi-year leases).
1.12.11.2 The depreciated cost of the Group’s equipment in this secondary segment on
December 31, 2006 was approximately NIS 13.9 million. In 2004 and 2005, the
depreciated cost was approximately NIS 31.6 million and NIS 27.9 million,
respectively.
1.12.12
Intangible assets
1.12.12.1 The labels under its ownership as well as the labels that Gottex Models is entitled
to register under its name (among other things, under the Klil Yofi Transaction),
including the designs and special prints that the Group makes use of, are
registered trademarks in most of the countries that the Group makes use of them
in this activity segment.
1.12.12.2 The main trademarks under which beachwear and shape-wear
are sold are:
“Gottex”, “Gottex Silver”, “Gideon Oberson”, “Pilpel”, “Free”, “Christina”,
“XOXO”, “Skechers”1 and “Body Wrap”. The Group follows up on the trademark
renewal dates registered under its name and extends their validity from time to
time. The transfer of the trademarks purchased under the Klil Yofi Transaction on
Gottex Models’ name has yet to be completed.
Most of the trademarks, in most of the countries where the Group's swimwear and
shape-wear is sold are valid for periods between 8 and 10 years.
1.12.12.3 The trademarks have become Gottex Models’ and Christina’s distinctive and
appear on the companies’ products as in their advertisements, are identified with
the products and contribute uniqueness to the products sold.
1.12.12.4 The costs invested in the trademarks during 2004, 2005 and 2006 are estimated at
approximately NIS 211.618 million, NIS 162.386 million and NIS 266.866
million, respectively.
1.12.13
Human capital
1.12.13.1 Below is the data on the number of employees employed by the Group in
1
During the second half of 2005, the Group ceased to manufacture under the “Sketchers” label.
207
swimwear and beachwear products (divided by division):
Division
Management and staff
Marketing
Design, production & operations
Total:
Dec. 31, 2006
Dec. 31, 2005
34
44
524
602
39
46
762
847
Dec. 31, 2004
44
50
1068
1162
1.12.13.2 The reduction of the number of employees during 2005 and 2006 (versus 2004) stems
mainly from the reduction in self-production processes that the Group had made for this
segment’s activity, as aforesaid, alongside additional efficiency measures.
1.12.13.3 For details concerning the Group’s engaging, through Gottex Models, with Mr. Gideon
Oberson in an agreement for providing design services, see paragraphs 1.12.4.3 and
1.12.4.4 above.
1.12.13.4 The Group engages its employees through personal agreements. These agreements
include a remunerative component according to performance. Gottex Models is bound
by collective agreements since it is a textile manufacturer.
The Group holds training and guidance sessions for the company’s employees.
1.12.14
1.12.14.1 The main raw materials used by the Group for its activity concerning swimwear and
shape-wear are fabrics, trimmings and threads. To the best of the company’s
management, there is no shortage, either worldwide or on the domestic market, of
manufacturers and suppliers of the aforesaid raw materials.
1.12.14.2 The main raw materials used for the production of swimwear and shape-wear are
purchased from suppliers in Italy, USA and Canada. The Group usually engages with the
suppliers at the collection design stage.
Besides ordering raw materials, the Group purchases finished products from outside
suppliers in Israel and around the world based on the designs, styles and specifications
prepared by the Group (concerning the manufacture of private labels, in cooperation
with the marketing chain that ordered). The Group supplies some of the aforesaid
manufacturers with the required raw materials, in whole or in part, to produce the needed
products.
The overwhelming majority of the Group’s foreign suppliers are from China, Turkey and
the Dominican Republic. The engagement of the aforesaid suppliers is usually for one
season or alternatively, through a multi-year agreement under which each party can
terminate the engagement by prior notice several months before the beginning of the
season. Since each one of the suppliers produces a certain style, therefore after arranging
the engagement for the coming season, the provision of that style is dependent upon its
208
actual manufacture by that supplier.
1.12.15
Working capital
Below are presented the details concerning the components of the Group’s working
capital for its activity in the swimwear and shape-wear segment:
1.12.15.1 As of December 31, 2006, the Group held an inventory of raw materials at an
approximate worth of USD 12.27 million and an inventory of finished goods at an
approximate worth of USD 29.45 million.
1.12.15.2 The Group allows for most of its wholesale customers to return those goods that were
not sold for a return of the paid exchange.
1.12.15.3 The warranty on the products is mostly for one year from the date of sale.
1.12.15.4 The suppliers’ average credit for the swimwear and shape-ware activity during 2006 was
40 days. Due to the changes that took place in the characteristics of production, there
were also changes in the average suppliers’ credit during 2004 and 2005 with the
average credit period was 52 days and 49 days, respectively.
1.12.15.5 The credit period extended to the Group’s customers in the swimwear and shape-wear
activity during 2004, 2005 and 2006 was 82, 99, and 86 days, respectively.
The group of fashion label products
1.12.16 Goods and services
1.12.16.1 The Group sells retail, through Gottex Brands, dry goods, shoes and supplementary
products (pocket handbags, belts and ties) for men, women and children, in the retail
market in Israel under the “Zara" and “Pull and Bear” brand names belonging to the
Inditex Group, which is one of the biggest fashion marketing groups in the world and
includes a number of companies that market various labels, amongst them: Zara, Pull
and Bear, Massimo Dutti, Bershka and Zara Home who market to over 3,000 stores in
64 countries. This aforesaid activity takes place according to an agreement signed in
February 2003, to purchase the activities of “Zara" and “Pull and Bear” labels in Israel
from Mutegei Ofna Ltd [Fashion Labels, Ltd] (in liquidation) and from the exclusive
franchise agreement signed in February 2003 with the Inditex Group for a period of five
(5) years (hereinafter, “The Franchise Agreement”), automatically extended for a
period of three (3) years (subject to each side being entitled to give notice that they do
not wish to extend the Agreement). To the best of the Company’s knowledge, there is no
intention on the part of Inditex not to extend the Agreement period). The conditions of
the Franchise Agreement are the basis for the Group’s general and routine activity
concerning fashion labels, including therein all that concerns opening new stores and
their design, closing existing ones, managing customer service, Inventory management,
advertising, etc. The payment rate as set for the granted franchise, as aforesaid, is 5% of
209
the sales turnover (before VAT) as per the conditions set in the Franchise Agreement.
1.12.16.2 Below are the details concerning the distribution of sales for the years 2004, 2005 and
2006, as divided according to the target customers (men, women and children):
Year
2004
2005
2006
1.12.17
Percentage of the Group’s Total Sales of Fashion Labels
Children’s Clothes
Women's Clothes
Men’s Clothes
11.2
65.4
23.5
11.7
65
23.4
10
67
23
Customers
1.12.17.1 Gottex Brands sell clothing, shoes and accompanying accessories to the entire
family. The Company’s customers are mostly from the middle-upper class.
1.12.17.2 In the fashion labels activity, the Group is not dependent upon any single or small
number of customers whose loss would fundamentally affect the segment’s
activity.
1.12.18
Marketing and Distribution
1.12.18.1 Marketing of fashion labels is done through the store brands “Zara” and “Pull and
Bear.” The aforesaid stores are sited in the leading malls and commercial centers
in Israel as set by Inditex and according to the Franchise. Sales teams, who have
undergone training for performing the job, carry out sales and marketing in the
stores.
1.12.18.2 At the date of the Periodic Report, the Group’s activity in this secondary segment
was carried out in 28 stores, leased by the Group, spread across the country, As
detailed below:
City
Tel Aviv
Jerusalem
Ramat Gan
Tel Aviv
Holon
Kiryat Bialik
Haifa
Beersheba
Petah Tikva
Eilat
Rehovot
Ashdod
Rishon Lezion
Raanana
Kfar Saba
Givatayim
Tel Aviv
Mall
Ramat Aviv
Malha
Ayalon
Dizzengoff Center
Holon
Kirion
Grand
Negev
Avnet
Mul Hayam
Rehovot
Sea Mall
Rothschild
Rananim
Arim
Givatayim
Azrieli
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
ZARA
-ZARA
--
P&B
P&B
P&B
P&B
P&B
-P&B
P&B
P&B
P&B
-P&B
P&B
P&B
-P&B
-P&B
210
In 2006, five stores were opened, During 2004 and 2005, two stores were opened (one in
each year), respectively.
1.12.18.3 Inditex executes the goods’ distribution process and inventory management under the
supply chain as set opposite all their franchisees across the world. Transport of goods is
via air [–freight]. When the goods arrive in Israel, a sub-contractor executes a process of
releasing the goods from customs and preparing them for sale (adding sales tags,
buzzers, etc.). Afterwards, they are distributed to the “Zara” and “Pull and Bear” stores
across Israel.
1.12.18.4 Store orders are carried out directly by store managers via direct communications [link]
with Inditex’ information system. Inventory management is under the responsibility of
Gottex Brands’ staff who guides the managers concerning permissible inventory levels
for each order.
1.12.18.5 Marketing activity and public relations are carried out, as set in the Agreement, in
complete coordination with Inditex. During the last few years, this activity included:
Publishing a number of ads in the daily newspapers and sales promotion through
cooperative projects with different bodies.
1.12.19
Competition
1.12.19.1 The fashion label segment is a very competitive one, characterized by many players
including international chains, local chains and private stores. The competition obligates
the Group to competitive pricing and investing in marketing.
1.12.19.2 The Group’s main competitors in fashion label activity are the following fashion chains:
“Castro”, “Renoir”, “Honigman”, “Polgat”, “Lee Cooper”, “Celio” and “Golf.” The
Group does not have the ability to estimate its market share of fashion labels vis a vis its
competitors but it is its assessment that it is among the leading bodies in this market.
1.12.19.3 The Group’s main completive advantage fashion label activity is the international
reputation of the “Zara” and “Pull and Bear” labels and the customer’s buying
experience. In order to preserve this advantage, the following assorted activities were
undertaken: Designing the Group’s stores under the supervision of Inditex’ designers,
locating the stores on larger areas relative to its competitors; strict product pricing;
extending training to all of the Company’s employees and managers; a [high] service
level set as a strategic target by the Company and working to guarding and improving it
continuously.
1.12.20
Seasonality
1.12.20.1 Fashion label sales are characterized by seasonal fluctuations. The first and third quarters
of the calendar year are characterized by end of season sales while the second and fourth
quarter of the calendar are characterized by sales at full price.
211
The winter season is typified by the purchase at mid-price per article but relatively
higher than the summer season. Thereby, the fourth quarter proceeds are on average
higher than the other quarters of the year. Another influence on sales is Israel’s holiday
season, with sales during the Rosh Hashanah and Passover periods are relatively higher.
1.12.20.2 Below are the data for sales by seasonal distribution (in NIS thousands) for the group of
fashion label products:
Quarter
Q1
Q2
Q3
Q4
2004
22
23
23
32
Percentage of Annual Sales
2005
21
23
24
32
2006
20
23
23
34
1.12.21
1.12.21.1
For its fashion label activity, the Group leases offices and stores. The stores are
found in malls (with one of them under the Group’s ownership) and commercial
centers across Israel. Most of the lease agreements are for relatively long periods
(from five to ten years) and include options for extensions as well as early
termination.
1.12.21.2
The depreciated cost of the fixed assets that is under the Group’s ownership, in
this secondary segment on December 31, 2006 was NI 64 million. Most of this
consists of equipment placed in the stores. For the years 2004 and 2005, the
depreciated costs were NIS 51 million and NIS 49 million, respectively.
1.12.22
Intangible assets
In the Franchise Agreement from February 2003, the Group was granted the
franchises to sell “Zara” and “Pull and Bear” products and the exclusive use of
their trade names In Israel for the franchise period.
1.12.23
Human capital
1.12.23.1
Below are details concerning the number of the Group’s employees working in
the fashion label segment (by division):
Division
Management and staff1
Store staff2
Total:
Dec. 31, 2006
31
935
966
Dec. 31, 2005
23
598
621
Dec. 31,2004
18
552
570
The increase in the staff stems primarily from opening of new stores and growth
in sales in existing stores
1
2
For this paragraph, Management: G.M., A.G.M. Finances, A.G.M. Commerce and Human capital.
Store staff includes store managers, department managers, cashiers and salesclerks.
212
.
1.12.23.2
In its activities relating to fashion labels, the Group is subject to the various collective
agreements by virtue of the extension orders.
1.12.24
As aforesaid in Paragraph 1.12.16.1 above, the Group purchases the products
exclusively from Spanish Inditex, the manufacturer of “Zara” and “Pull and Bear,” in
accordance with the Franchise Agreement. The main conditions set in the Franchise
Agreement concerning the supply of products are as follows: (1) Inditex will set the
maximum product prices; (2) permissible returns at a rate of up to 10% (with sum
constraints concerning end of season sales and does not include damaged goods); (3) in
order to guaranty its obligations for the purchase of goods, the Group gave a
documentary credit to the sum of €5.2 million.
Except for a sub-contractor who carries out the release from customs and prepares the
goods for sale (see the description of the supply chain in Paragraph 1.12.18.3 above);
there is no exclusive supplier for the Group in this secondary segment.
1.12.25
Working capital
Below are the details concerning the components of the Group’s working capital for the
fashion label segment:
1.12.25.1
On December 31, 2006, in this secondary segment, the Group held inventory worth
NIS15.7 million.
1.12.25.2
Return of goods is permissible within 30 days after purchase.
1.12.25.3
Warranty for faults in the quality of the goods is for half a year.
1.12.25.4
The average credit period from suppliers for the fashion label segment during 2006 was
36.9 days. In comparison with 2004 and 2005, the credit period was 27.4 and 36.9 days,
respectively.
1.12.25.5
The average number of credit days extended to the Group’s customers for the fashion
label during 2004, 2005 and 2006 was 20.9, 12.6 and 12.6 days (respectively).
Additional details concerning the textile segment in general
1.12.26
Financing
1.12.26.1
The Group finances its activity in this activity segment through its own means as well
as through bank credit from financial institutions. The bank credit is extended to the
Group’s corporations, usually against the company’s guaranties against various liens,
including routine as well as specific ones.
1.12.26.2
Some of the corporations in the Group, in this activity segment, have arrangements with
bank corporations concerning the financial standards for the credit they received from
213
those corporations, which refer to, among other things, to the ratio of working capital,
routine reports and a constraint on their ability to mortgage their assets.
1.12.26.3
To the best of the Company’s management, as of the date of this Periodic Report, not a
single bank corporation with which the Groups has engaged with for this activity
segment, has requested for any loans extended to the Company to be paid immediately.
Gottex Models as engaged in an agreement with financial institutions to receive risk
insurance for customer credit and collection.
The constraints placed upon the Company to receive credit are those deriving from the
credit lines as agreed upon with the financial institutions.
1.12.26.4
Constraints for borrowing groups – for details see paragraph 1.23.3.1 below.
1.12.26.5
Guarantees extended – The Company and Gottex Models guaranty part of Gottex
Brands concerning some of the store lease agreements.
1.12.27
Taxation
1.12.27.1
Concerning the ongoing investigation against Gottex Models regarding customs
payment, see paragraph 1.12.29 below.
1.12.27.2
For details concerning the Group’s taxation in general, see paragraph 1.24 below.
1.12.28
Constraints and supervision over the segment’s activity
1.12.28.1
According to the Business Licensing Law- 1968 (hereinafter, “Business Licensing
Law”), no person shall engage in a business requiring licensing, except that he holds a
license by virtue of the law and according to its conditions.
Gottex Models is working to receive a business license for the building it leased in Or
Yehuda.
As of the date of the Periodic Report, all the buildings operated by Gottex Brands have
business licenses. There is a legal proceeding concerning two stores after indictments
were served against Gottex Brands for the period before business licenses were granted.
1.12.28.2
For additional details, see paragraph 1.12.3.2 above.
1.12.29
Legal proceedings
During 2006, the customs authorities began to engage in an investigation of Gottex
Models concerning payment of customs for goods manufactured in Turkey and
Romania. As of the date of the Periodic Report, no payment demand has been made nor
have any additional details been given on this issue.
Except for the aforesaid, there are no legal procedures that will fundamentally affect the
Group’s activity in the textile segment.
1.12.30
The Group is meticulous about examining its goals and business strategy from time to
time. Below are details concerning the Group’s central goals in the textile segment:
214
1.12.30.1
It is the Group’s intention, concerning activity in swimwear and shape-wear to route
most of its own manufacturing operations to sub-contractors and increase the
percentage of finished goods that it purchases.
1.12.30.2
It is the Group’s intention to continue establishing the labels it sells.
1.12.30.3
Concerning fashion labels, it is the Group’s intention to act towards increasing the
scope of its sales in Israel, by, among other things, opening additional stores,
strengthening the “Zara” and “Pull and Bear” brands. Additionally, it is its intention to
act towards increasing its profitability through efficiency measures, mostly on the
logistical aspect.
1.12.30.4
The Group will continue to examine business opportunities, as such will present
themselves, among other things, to receive franchises for selling additional Inditex
labels as well as from other manufacturers.
1.13
The Hotel Segment
1.13.1
In this activity segment, the Group focuses upon the hotel, tourism and recreation
segment in Israel and overseas.
1.13.2
The Group’s activity in the hotel segment is centralized, in the main, through the
Company’s subsidiary: Africa Israel Hotels, which, beginning in 1993 became a public
company whose shares are listed on the TASE.
1.13.3
Most of the hotel properties managed by Africa Israel Hotels are owned or leased (in
whole or in part) by Africa Hotels, usually through a subsidiary. Yet, for those few
hotels, Africa Israel Hotels has engaged only in management agreements (based upon a
set sums or a percentage of the proceeds), without any specific rights of ownership in
the hotel property.
1.13.4
General information
1.13.4.1
The structure of the hotel industry and changes therein
The hotel industry includes several types of accommodation services, the main ones
are: Vacation hotels, business hotels, bungalows and guest houses. In the past few
years, there has been a development in specialization and professionalism in some types
of hotels and target group, such as the health resorts and spas.
The hotel industry by its nature is bound to regular investments, routine maintenance
and development of the hotels.
1.13.4.2
Restrictions, legislation, standards and constraints
The various instructions concerning safety, business licensing, labor laws and customer
protects are applicable to the hotel segment. For details, see paragraph 1.13.17 below.
215
1.13.4.3
Changes in the hotel segment’s activity and its profitability1
The hotel segment suffered from deficient occupancy since 2000 because of the security
situation in Israel after the El-Aksa Intifadeh erupted. During the years 2001-2003,when
in addition to the security situation there was a world-wide recession, the room
occupancy in Israeli hotels went down to a low of 43%. During the years 2004-2006, a
growth in the hotel industry was noted: In 2004, there was a 51% occupancy rate and in
2005, an occupancy rate of 57% was recorded. In 2006, in line with the Israel Hotel
Association’s forecasts, a record high of 63% occupancy was expected.
However, the outbreak of the Second Lebanese War during the second half of 2006
brought this growth trend to a halt. The war, which led to a sharp decline mostly in
tourist bed nights, brought the average annual occupancy in Israel’s hotels to 58%.
The work force employed by hotels in Israel, despite the sharp drop during 2001-2003,
until a low of 22,800 employees. This number rose during the years 2004-2006 and by
totaled approximately 29,000 in 2006 (at the estimation by the Israel Hotel Association.
If not for the Second Lebanese War, the work force would have risen to 31,000
employees.
During 2006, in all of Israel, approximately 19.3 million bed nights were recorded for
the hotels. Of these, some 6.9 million bed-nights were by tourists and 12.4 million were
by Israelis. The Israel Hotel Association estimated that the Second Lebanese War
caused a loss of about 2 million bed nights by tourists and a loss of 2,000 positions in
the hotel industry.
It is worthwhile to note that during 2006, bed nights by Israelis were at a record high
(12.4 million) and broke the 2005 record for local tourism when the total of bed nights
for Israelis reached 12.3 million. This result was achieved despite the Second Lebanese
War.
1.13.4.4
Development of the hotel segment’s markets or, changes in customer characteristics
During the past few years one could discern a number of developments in the hotel
segment’s markets and this segment’s customers’ characteristics whose main points are
listed below:
A.
Marketing through e-commerce – The internet is taking a larger share of the
marketing process and has become the commerce arena in the hotel segment.
B.
Strengthening direct sales – There is a noticeable growth in reservations through
networked reservation centers with a large investment in advertising these centers.
1
The data in this paragraph are based upon those published by the Israel Hotel Association.
216
C.
A change in the customer’s expectations – There is a trend in the changing of
customer expectations, among other things, in the following: Greater awareness of the
importance of service standards, seeking a comprehensive hospitality experience
through additional content, which is to be provided during the stay. In addition, there is
a continuously growing trend in customer demand from the hotel to adjust itself to the
technological changes, including a modern communications infrastructure.
D.
Acquisitions – There is a trend of large leading chains in the entire industry to bolster
themselves by company mergers or acquisitions. This trend is noticeable, with the
acquisition of small companies by larger ones and thereby creating large corporations
specializing in tourism, hotel and vacationing.
E.
Business tourism – There is a trend in the strengthening of international customer
clubs.
1.13.4.5
Critical success factors in the hotel sector and the changes therein
It is Company’s assessment that the critical success factors in the hotel industry are as
listed below:
A.
An improvement in Israel’s security situation will bring about a significant
improvement in Israel’s tourist industry.
B.
Investment, proper maintenance and operation of hotels are important to maintain the
hotel’s attractiveness.
C.
Maintaining the hotel branding and distinction.
D.
Continuously improving the hotel’s standard of information systems and technology for
maximizing efficiency and operations.
E.
Executing marketing and advertising activities as well as including operating a system
for customer retention.
1.13.4.6
The main entry and exit barriers in the hotel segment and changes therein
A.
The main entry barriers in the hotel segment are:
(1)
A hotel chain with a countrywide deployment (contrary to putting up a single hotel or
resort unit) requires large investments in infrastructures and buildings. Its operation
involves expenses for routine maintenance and operations of the hotels.
(2)
Amassing a group of customers through, among other things, advertising and
marketing, also involves investing in many resources and by its nature is a slow and
long-time process. Wit all this, the growing use on the internet allows wider and easier
exposure also for the relatively small hotels and reduces the aforesaid entry barrier.
(3)
Branding and distinguishing the hotel or chain: In the hotel industry, where there are a
large number of renowned companies operating, it is difficult to brand a new hotel.
(4)
Locating financial resources
217
B.
Main exit barrier in the hotel segment – In light of the fact that the tourist and hotel
keeping industry is rich in properties, current assets and inventory, it would appear that
the main exit barrier is realizing these assets and cancelling or terminating current
agreements.
1.13.4.7
Alternatives to hotel section’s products and applicable changes therein
A.
Essentially, bungalows and guest-houses are, in general, accommodations
whose
required investment are relatively small in comparison to the investments needed for
setting up, maintaining and operating hotels. They constitute an alternative product to
hotels in the hotel segment.
B.
Overseas guest-houses and hotels constitute an alternative product to those of Israel's
hotels.
C.
In addition to the aforesaid, one can point to other alternative products to those of the
hotel segment. They derive from the cultural and leisure segments such as challenging
sports activities and so forth.
1.13.4.8
The competition structure in the hotel segment and changes therein
The large number of competitors characterizes competition in the hotel and vacation
segment. The direct competitors in this segment are all the hotels in the relevant country
with their various specialties. The indirect competitors are, as aforesaid, the guest
houses, B&Bs and vacation houses, cultural and leisure operators, as well as foreign
hotels.
1.13.5
Goods and services
1.13.5.1
In the hotel and vacation segment, the main proceeds derive from providing
accommodation services in hotels and health and vacation resorts that the Group
manages.
1.13.5.2
The accommodation packages in hotels and health and vacation resorts generally
include bed and board. In addition, in some hotels, additional services are provided as
listed below:
A.
Food and beverage services -
B.
Food and beverage services are provided to the hotels guests in restaurants, the hotel
lobby and room service. In addition, the hotels offer food and beverage services for
events that take place on the hotel’s premises.
C.
Leisure and vacation services – Some of the hotels offer a variety of accompanying
leisure and vacation services such as tennis courts, children’s playground equipment,
horse ranch, bathing beach, gyms, swimming pools and so forth. The proceeds from
these services are insignificant relative to those from the Group’s hotel segment.
218
D.
General services – Some of the Group’s hotels offer a variety of services under its
commercial areas. These include stores and businesses operated by licensees who use
the premises for a delineated period and in exchange pay a monthly licensing fee.
E.
Business services - Some of the Group’s hotels are defined as business hotels: Tel
Aviv Crowne Plaza, Jerusalem Crowne Plaza, Haifa Holiday Inn and the Ashkelon
Holiday Inn. They offer a variety of business services such as: Hall, meeting rooms
equipped with communications and media, business lobby, telephone and
communication services and so forth.
F.
Health resorts and spas – Some of the Group’s hotels provide spa services as listed
below:
(1)
Most of the chain’s hotels (Tel Aviv, Haifa, Dead Sea, Ashkelon, Tiberias, Jerusalem,
Eilat Crowne Plaza) provide holistic and alternative and spa treatments. At the Tiberias
Hot Springs, additional treatments are provided at the hot springs as well as
physiotherapy. In some of the hotels, these treatments are not offered as part of Africa
Israel Hotels but are provided by external contractors who operate the treatment areas.
(2)
Some of the Group’s hotels (mostly at Tiberias Hot Springs) provide medical
treatments, financed by institutional bodies, for IDF casualties, the disabled and
Holocaust victims.
(3)
At the Kislovodsk Plaza in Russia, an variety of medical treatments are provided,
including, among others, medical treatment according to the license from the local
health authorities, spa services, dentistry, cosmetics and more.
G.
Family events and conferences – The Group’s hotels (including the Kislovodsk
“Plaza”) have halls available for conferences, events, seminars, workshops and business
meetings. The hotels supply the food and beverages for these gatherings.
1.13.5.3
Below are details concerning the Group’s hotels and vacation and health resorts (in the
table below, the term “Percentage of rights in the hotels” refers to rights by ownership
or by lease or by contract. For clarification, it is noted that the percentage of holdings in
the property assets shown, are those held by the subsidiary of Africa Israel Hotels,
unless otherwise expressly stated (for example, except for the Tel Aviv Crowne Plaza,
which Africa Israel Hotels directly holds, and also, except for the Dead Sea Crowne
Plaza, which Africa Israel Hotels holds in partnership)):
219
Hotel
Location
Rooms &
Suites1
Percent Rights
Tel Aviv Crowne
Plaza
Tel Aviv
246
Approx 96.5%2
Jerusalem
Crowne Plaza
Jerusalem
397
App. 100%
Tiberias Holiday
Inn
Tiberias
250
App. 100%
Dead Sea
Crowne Plaza
Dead Sea
304
50%
Haifa Holiday
Inn3
Haifa
100
100%4
Ashkelon
Holiday Inn
Ashkelon
215
Management
alone5
Eilat Crowne
Plaza
Eilat
266
100%
Hotel's uniqueness
Sited on the Tel Aviv shoreline
(in the luxury hotel area. Its
market share consists of
foreign business people.
Conferences and events are
also held here.
Sited adjacent to the
International Conference
Center, the government center,
Israel Museum, Knesset &
more. Also used for
conferences. Aimed for
vacation tourism and business
people.
Sited on Kinneret’s West
shoreline, South of Tiberias. It
is a resort hotel and is part of
the “Tiberias Hot Springs”
resort and health spa.
Sited on the Dead Sea
shoreline, at Ein Bokek beach.
It has a health & treatment
center, modern & diverse spa
Sited on the Carmel ridge near
the Central Carmel. Aimed at
business people and
vacationers.
Sited on the shoreline nearby
to the new marina. A modern,
architecturally distinct
construction. Aimed at
business people and
vacationer, with conference
halls. It is the only hotel of this
high class in the area.
Sited on Eilat’s West Lagoon
shoreline. Aimed mostly at
vacationers
1
This column presents the total number of rooms in the entire relevant property.
The remaining holdings are held by Africa Israel Properties, which has leased in perpetuity several units in the
hotel to third parties.
3
Adjacent to the hotel is a residential building, which is considered luxury apartments and receives maintenance
services from the hotel.
4
During December 2003, Africa Israel Hotels completed the purchase of all the shares issued and paid from the
company holding the Haifa Holiday Inn (P.D. Hotelkeeping, Ltd.). In exchange for the purchased shares and
executing the obligation under the agreement, Africa Israel Hotels will pay to the seller during the period
beginning in January 2004 and until March 2014, depending upon the hotel’s proceeds, a sum between USD
3.96 million and USD 5.35 million.
5
Third parties own the property.
2
220
Eilat Holiday Inn
Patio
Eilat
115
100%
Eilat Holiday Inn
Express
Eilat
212
100%
Total Rooms in Israel:
Sanatorium Plaza
Hotel
Russia
Sited near the airport, in the
city’s commercial center.
Aimed at business people and
vacationers.
Sited on the North coast near
the Crowne Plaza. Aimed at
accommodating and sleeping
young vacationers (teens to
after army).
2,105
291
50%
Sited in Kidslovodsk in the
northern Caucasus, Russia.
Integrates guest room, business
center (conference rooms),
health & medical center.
Extensive areas for holistic and
alternative treatments, a
medical center, spa site,
entertainment center and more.
The average annual occupancy of the Group’s hotels during 2004, 2005 and 2006 was
approximately 56%, 64% and 64%, respectively.
1.13.5.4
In addition, the Group holds (100%1) the “Tiberias Hot Springs” health resort, in
Tiberias (hereinafter, “Tiberias Hot Springs”). The “Tiberias Hot Springs” is a health
resort located on the Lake Kinneret shore near the Tiberias Holiday Inn. Tiberias Hot
Springs provides medical treatments (under medical supervision), holistic and
alternative treatments.
1.13.5.5
In addition, Africa Israel Hotels operates nearby to the Tiberias Holiday Inn, a school
for training staff in the hotel skills. Some of the courses given in the school are
budgeted by the Ministry of Industry, Commerce and Tourism and are under its
supervision.
1.13.5.6
In addition, Africa Israel Hotels is a partner in the “King City” theme park located in
Eilat (hereinafter, “The Theme Park”). The Theme Park opened to visitors in June
2005. It integrates educational elements and is aimed at the public including families,
groups, schoolchildren and more. The Theme Park is a complementary product for the
Group’s hotels in Eilat.
Africa Israel Hotels, through its subsidiary (Jordan Hotels M.H.I., Ltd.), is partnered in
the control with 37.07% with others in a limited partnership known as “Etzion Gever,”2
which holds and operates the theme park. According to the signed partnership
agreement, each of the partners was given the right of first refusal in the event that one
1
Partly owned and partly leased.
The other limited partners, to the best of the Company management’s knowledge, are Elran (D.D.) Realty, Ltd.
(a public company) and Etzion Gever King Solomon’s Camel, Ltd. (a private company).
2
221
of the partners sells his share, including cases where the control of the partner has been
transferred.
In parallel to engaging in the partnership agreement, the subsidiary Jordan Hotels
M.H.I., Ltd engaged in an agreement on March 5, 2001with Elran (D.D.) Ltd.
According to it, each one of them is entitled to purchase the other’s rights in “Etzion
Gever” and in the general partner under the “Buy Me Buy You” mechanism at the set
conditions.
1.13.5.7
Purchase and leasing of additional space for hotel, vacation and health resort.
A.
During March 2006, Africa Israel Hotels, through its wholly owned subsidiary, signed
on an agreement with the purchase of Kenit Hashalom Investments, Ltd. [a subsidiary]
of the Azrieli Group (hereinafter in this paragraph 1.13.5.7: “The Agreement” and
“Kenit”). According to the Agreement, the aforesaid subsidiary will lease from Kenit,
13 stories of the square tower located in the Shalom Center (Azrieli) in Tel Aviv as well
as additional areas on the ground floor and the towers basement in reservation to set up
and operate an urban business hotel.
According to the Agreement, the aforesaid subsidiary will lease from Kenit the part of
the aforesaid building at a standard envelope finish and carry out modifications required
to make it suitable for a hotel with 272 rooms and suites. The Company's estimate for
the investment for making the leasehold suitable for a hotel will total approximately
USD 13 million.
The leasing period is for 12 years from the time the hotel is opened, with options
granted to the aforesaid subsidiary, to extend the lease period: The first is for 6 years
and the second one is for 6 years and 11 months.
It is the Company management’s estimate that the hotels expected completion would be
towards the end of 2007, subject to possible changes during the erection process.1
The above estimate by the Company’s management concerning the hotel’s completion
date constitutes a projection, which may or may not be realized due to delays in the
erection process that are not under the Company’s control and are not known to the
Company at the time of the Periodic Report.
B.
In September 2006, Africa Israel Hotels, through its wholly-owned foreign subsidiary,
purchased from a Russian company a real estate property of approximately 50 dunam
in Kidslovodsk, Russia in exchange of USD 5.5 million. The property is located about 3
km from the “Plaza” Sanatorium, which is managed by the Group.
The Group plans to develop this property for a sanatorium with 800 to 1000 beds
1
Under the agreement signed with the Inter Continental Hotels Group, it was set that the hotel to be sited in the
Shalom Center (Azrieli) will have the brand name “Crowne Plaza.”
222
(including a group of buildings slated for demolishing) with a total built-up area of
about 39 thousand sq.m..
C.
During November 2006, Africa Israel Hotels, through its wholly-owned foreign
subsidiary, engaged in an agreement with a third party, to purchase a real estate
property of about 6 dunam in Kidslovodsk, Russia for erection of a boutique luxury
hotel with 110 to 120 beds, in exchange of approximately USD 3.53 million.
The property is located in the city’s center nearby to the “Plaza” Sanatorium, which is
managed by the Group.
D.
Africa Israel Hotels announced in its Periodic Report for December 31, 2005, of its
intention to erect a hotel on 26 Ozerkovskya Street, Moscow, Russia. Accordingly,
Africa Israel Hotels has expended funds for the development of this project. During the
beginning of 2007, the transaction outline for erecting this hotel changed so that the
Company, through its subsidiary (which is not part of the Africa Israel Hotels Group),
will be the one to run and erect the hotel, while Africa Israel Hotels will accompany the
hotel’s erection process through providing consulting and routine accompaniment. After
the hotel is opened, it will manage it.
E.
On February 15, 2007, Africa Israel Hotels engaged in a letter of intent (hereinafter,
“Letter of Intent”) with a foreign company (hereinafter, “The Foreign Company”) to
examine the possibility of purchasing a three-star hotel in the town of Schwieberdingen
near Stuttgart, Germany (hereinafter, “The Hotel”). The hotel is privately owned, with
114 rooms, event halls with a total area of 1,044 sq.m. and three restaurants. The hotel
is sited on 6,460 sq.m. of land. As of the date of the letter of intent, the hotel is inactive.
It is the Company management’s estimate that the hotel could be active within 90 days
after its purchase if and should a purchase be executed. Since asides for completing
some of the hotel equipment such as dining utensils and linens, not much more is
needed to be invested. According to the Letter of Intent, Africa Israel Hotels received
the right to carry out an examination of the judicial, economic and engineering
suitability of the hotel. It was set that if after examining its suitability, if at Africa Israel
Hotels’ discretion, it thought it right to purchase the hotel, the two parties will engage in
a final agreement to purchase the hotel in exchange for the sum of €3.75 million,. The
sum of €3 million to be put down by the foreign company, or its representative, as a
loan to Africa Israel Hotels.
During March 2007, Africa Israel Hotels carried out an examination of the hotel’s legal,
economic and engineering suitability. Afterwards, Africa Israel Hotels’ directorate
authorized it to engage in a final agreement for purchasing the hotel.
223
F.
On March 11, 2007, Africa Israel Hotels engaged in a memorandum of understanding
(hereinafter, “Memorandum of Understanding”) with two foreign companies
(hereinafter, “The Sellers”), to examine the possibility of purchasing 60% of the
Sellers' direct or indirect holdings in four hotels located in the center of Bucharest,
Romania with a total of 294 rooms for hotel accommodations (respectively, hereinafter,
“The Hotels” and “The Transaction”). The Sellers will continue to hold the remaining
40% not sold in the transaction.
In exchange for the purchase of the holdings, Africa Israel Hotels will pay the Sellers, if
and should the Transaction be completed, the sum of approximately €18 million on the
basis of the properties value, subject to adjustments as of the date for completing the
purchase.
In addition, after the purchase, in the event it is executed, the companies’ owners will
be required to invest the additional sum of €8 million for renovating one of the hotels.
Africa Israel Hotels’ share in the renovation will be according to its share of the stock
(60%).
Execution of the Transaction is subject to Africa Israel Hotels’ examining its suitability
to its satisfaction by the date of May 11, 2007, as well as signing of a detailed
agreement between the parties.
Under the MOU, it is set that only the detailed Agreement, in the event it will be signed,
will obligate the parties to execute the Transaction. In the event that they cannot come
to an agreement on the transaction’s conditions, each party is entitled to give notice of
its indisposition towards it.
The above information, in all that concerns a possible engagement of the parties in a
Transaction constitutes a projection. Therefore, there exists an uncertainty concerning
its realization, among other things, due to the results of the suitability inspection, nonsigning of the detailed Agreement as well as the violation of the Letter of
Understanding or the detailed Agreement, if it should be signed.
1.13.6
Customers
1.13.6.1
The table below lists details of the distribution of the Group’s proceeds from bed nights
in the hotel segment according to a division between customers from Israel and from
overseas:
224
Customers
From
Israel
Customers
From
Overseas
Total:
Bed Nights in
2006 (in NIS
million)
%
Bed Nights in
2005 (in NIS
million)
%
Bed Nights in
2004 (in NIS
million)
%
76.055
49.03
77.346
57.47
74.614
64.80
79.079
50.97
57.243
42.53
40.523
35.20
155.134
100
134.589
100
115.137
100
1.13.6.2
As at December 31, 2006, the Group is not dependent upon any major customer.
1.13.7
1.13.7.1
The Group operates in a large and varied type of marketing channels. In such manner, it
aims at a wide target audience in Israel and overseas. The Group carries out marketing
operations in concentrated manner at its hotels and sites, taking its advantage of size
and that there is only a single marketing network. Detailed below are the Group’s main
marketing channels in the hotel segment:
A.
Reservation center by telephone and internet.
B.
Agents who approach potential customers.
C.
Reservations through companies in Israel and overseas.
D.
The Group advertises its services on a permanent basis. The advertising includes,
among other things, participation in tourist [trade] fairs in Israel and overseas;
advertising in tourist wholesalers’ pamphlets; advertising in the media (included here
Africa Israel Hotels’ internet site); direct mailings; sales promotion activities; public
relations and engaging with giant international corporations in business dealings.
E.
Under the Group’s marketing activities, from time to time it approaches tourist
wholesalers in Israel and overseas who specialize in approaching particular large public
sectors in its activities in this segment.
F.
Customer club – The Group promotes marketing of its services to the business sector,
among others, through activating a customer club (only companies and businesses)
called the “Crowne Club.” Many business companies are members of this club; their
guests enjoy benefits by the Group’s hotels and special services for business people.
1.13.7.2
The table below lists the Group’s proceeds from the hotel sector from bed nights by
reservation sources:
225
Bed Nights in
2006 (in NIS
million)
%
Bed Nights in
2005 (in NIS
million)
%
Bed Nights in
2004 (in NIS
million)
%
44.370
29
44.902
33
39.378
34
79.180
51
55.982
42
48.463
42
31.584
20
33.705
25
27.296
24
155.134
100
134.589
100
115.137
100
Direct
Customers1
Customers
Via Agents
Customers
Via
Companies
Total:
1.13.8
Competition
1.13.8.1
Hotels in Israel
A.
In Israel, The Group faces fierce competition in this activity segment, from direct
competitors such as chains and other hotels as well as from indirect competition such
as guest houses, B&Bs and hotels overseas. The competition from hotels are from
those located near those of the Group’s hotels at this or that standard and exists for
those market sectors that the Group’s hotels are focusing on.
B.
The competition that the Group is exposed to exists on the local and the regional
level, mainly from its neighbors in the Mediterranean basin who offer vacation
packages at relatively low prices, which competes with the Group’s accommodation
packages in Israel and consist of a real alternative to a vacation in Israel for the Israeli
tourist.
C.
In light of number of competitors as aforesaid, and the complexity in discerning them,
the management cannot estimate the number of its competitors, direct and indirect in
this segment. In Israel, there are two public companies that directly compete with the
Group in this segment (“Isrotel” and “Dan Hotels”). There are also private bodies
who directly compete with the Group (including “Fattal,” “Sheraton Moriah” and
“Tel Aviv Hilton” hotel chains), as well as small-scope hotels (including “Rimonim,”
“Accor” and “Cube” chains)
D.
The technological revolution which brought with it the wide-spread use of the
internet, opened up for many factors, including individual hotels, the possibility to get
exposure, advertise themselves with relative ease and low expense to their target
audience. Thereby, the competition has increased in this segment.
E.
The Company’s management estimates that its market share of hotels and vacation in
Israel is about 5% of this market.1
1
Customers who make their reservations to hotels from hotels, including via the Group’s reservation centers
and/or via the internet.
226
1.13.8.2
Active vacations and theme parks
The Group's competitors for the theme park in Eilat are the other theme parks in Eilat
such as the Undersea Observatory, the I-Max movie theater, Dolphin Reef and more.
The positive influence upon the park’s competitive status is its location on Eilat’s
North shore, within walking distance from most of the big hotels in Eilat; the
profusion and variety of facilities and attractions it offers; it is roofed over and airconditioned, allowing for hours of ongoing experience. On the other hand, the
negative influences upon its competitive status are it being closed on the Sabbath and
Israel’s holidays (in accordance with accords between the partners in the “Etzion
Gever” partnership) as well as the queues during prime times.
With all that, in light of the fact that the project is of a unique type, the management's
assessment is that the Group does not have a direct competitor with a similar product.
1.13.8.3
Hotels in Russia
The “Plaza” sanatorium hotel in Kislovodsk, is operating in its first year. In the
northern Caucus in general and in the town of Kislovodsk in particular, there are a
number hotels and sanatoriums based upon the unique spring-waters in the area. With
all that, the “Plaza” hotel is the only modern Western hotel among them and so is
perceived as a luxury hotel.
1.13.8.4
The Group confronts the fierce competition in this segment’s activity by various
means. Below are some of main ones:
A.
Investing in the tourist product itself; that is, renovating hotels, keeping up their
maintenance and renewal, investing in their service arrays, investing in infrastructures
as well as enriching the guests’ experience in the hotels.
B.
The Group invests marketing and advertising efforts in Israel and overseas, taking
advantage of its size and advertising the Group’s hotels under the international hotel
chain.
C.
The Group has cooperative agreements with giant corporations in Israel and overseas
for hosting [their guests] in the chain’s hotels.
D.
The Group has set a central goal for itself to continuously improve the standard of its
service in its hotels.
1.13.8.5
The Company’s management estimates that its market share in the hotel and vacation
market overseas is insignificant.
1
This assessment is based upon the number of available accommodations and the occupancy rate in all of the
hotels in Israel according to the data provided by Israel Hotel Association. This estimate is based on the number
of occupied rooms in Africa Israel Hotels (the average annual occupancy rate times the total number of rooms)
divided by the total number of occupied rooms in Israel the average annual occupancy rate times the total
number of hotel rooms in Israel as provided by the Israel Hotel Association).
227
1.13.9
Seasonality
1.13.9.1
The hotel industry is greatly influenced by seasonality.
1.13.9.2
The degree of seasonality’s influence changes from one tourist area in Israel to the
next. Usually the high seasons in resort hotels are during the summer months and the
holidays; that is, the second and third quarters of the year. For the health resorts, in
Tiberias and the Dead Sea, the high season is during the last quarter of the year.
As for vacation tourism at the Dead Sea and in Tiberias, seasonality is less influential
due to the developed winter tourism. On the other hand, in Jerusalem (there
seasonality is influential concerning foreign tourists and less so in the business
segment that the hotel is also active in), the high seasons are the Spring and Autumn
due to Jewish and Christian holidays as well as for the numerous conventions and
festivals held during these seasons. In the Ashkelon hotel (there seasonality is well
felt, mainly concerning foreign tourists and less so in the business segment that the
hotel is also active in), a negative influence is felt during the Winter season.
1.13.9.3
As for business tourism, which the Company sees as its target audience for the Tel
Aviv Crowne Plaza, the Jerusalem Crowne Plaza, Ashkelon Holiday Inn and Haifa
Holiday Inn, the seasonality influence is insignificant.
1.13.9.4
As for the health tourism in the “Plaza” hotel in Kislovodsk – since the hotel has been
open to the public for the first year, not enough data is available to characterize
seasonal influences. According to the Company’s assessment, during the winter
months (December through March), the demand level will be lower than during the
Summer months.
1.13.9.5
In order to deal with seasonality, the Group works continuously to match the expense
levels with those from the proceeds. Additionally, the Group is active in
complementary markets that are less influenced by seasonality, such as business
tourism and tourism focused upon a specific sector.
1.13.9.6
Below are details of the Group’s proceeds in Israel, for this segment by quarters for
the years 2004, 2005 and 2006 (by percentage):
Period
Q1
Q2
Q3
Q4
Total:
2006
20.3
26.5
27.3
25.9
100%
2005
16.81
24.88
30.97
27.34
100%
2004
19.52
24.42
28.95
27.11
100%
Below are details of the Group’s proceeds from overseas (the “Plaza” hotel in
Kislovodsk), for this segment [by quarters] for 2006 (by percentage):
228
Period
Q1
Q2
Q3
Q4
Total:
1.13.10
2006
7.8
23.3
35.1
33.8
100%
Fixed Assets and facilities
Most of the Groups assets in this segment’s activity are hotel buildings and the land
they are built upon, which serve the Group’s activity in this segment.
The total depreciated costs of the Group's fixed assets in the segment’s activity for
December 31, 2004, December 31, 2005 and December 31, 2006, was NIS 920.559
million, NIS 984.317 million and NIS 1,017.974 million, respectively.
1.13.11
Intangible assets
1.13.11.1
For its activity in this segment, the Group makes use of brand names as detailed below
which its hotels have become identified with:
A.
The “Africa Israel Hotel” brand name and logo, at no cost since it is a Group company.
B.
In Israel the Group makes use of the three brand names the Six Continents hotel chain
known by its trade name IHG along with the caption “InterContinental Hotels group”
(hereinafter, “IHG”), as below:
(1)
The “Crowne Plaza” brand name (hotels in Tel Aviv, Eilat, Jerusalem and the Dead
Sea). The brand name is associated with five-star luxury hotels (in comparison to what
is accepted worldwide). It is characterized as a luxury hotel.
(2)
The “Holiday Inn” brand name (hotels in Haifa, Tiberias, Ashkelon and Eilat). It is the
widespread brand name for the IHG Group and associated with four-star hotels (in
comparison to what is accepted worldwide).
(3)
The “Holiday Inn Express” brand name (in Eilat). The brand name is associated with
hotels characterized by rooms built to a set standard, efficient to operate. They provide
basic services of a good standard and at a reasonable price.
Africa Israel Hotels has a set of agreements with IHG, who holds, among others, the
brand names “Crowne Plaza,” “Holiday Inn” and “Holiday Inn Express.” This set of
agreements includes a framework agreement upon which, Africa Israel Hotels is signed
along with individual franchises between companies that operate the hotels (including
Africa Israel Hotels and its subsidiaries) opposite IHG.
In November 2006, Africa Israel Hotels engaged in a new master agreement with IHG.
According to the new agreement, the validity of the conditions in the present master
agreement from September 2004, have been extended (so long as they are note
expressly changed in the new agreement). The validity of all the individual franchises
229
were also extended, with the same condition, until March 31, 2014, with an option for
Africa Israel Hotels for another extension until March 31, 2021 but with the stipulation
that certain conditions be met.
Additionally, the new agreement includes the accord by which the new hotel that Africa
Israel Hotels is setting up in the Shalom Center (see paragraph 1.13.5.7) will carry the
brand name “Crowne Plaza” with the same franchise conditions as the other hotels in
the chain.
C.
The brand name ”Hamei Tiberias Spa” (in Tiberias): The brand name (which is not a
registered trade name but is renown as such for the past 75 years in the health and spa
segment) relates to the center located in Tiberias. It is one of the biggest of its kind in
Israel with its spas and the provision of spa services and health and relaxation
treatments.
D.
In the hotel in Kislovodsk, Russia, the Company uses the “Plaza” name, which is a
generic name.
1.13.12
Human Capital
1.13.12.1
Below are listed the number of workers employed by the Group in this segment’s
activity:1
Division
Marketing and sales
Room department
Food and beverage department
Maintenance department
Spa and health department
Hotel school in Tiberias
Marketing and sales
Room department
Food and beverage department
Maintenance department
Spa and health department
1.13.12.2
Dec. 31, ‘06
In Israel
125
65
320
500
70
90
30
Overseas
37
6
95
100
34
116
Dec. 31, ‘05
Dec. 31,’04
130
65
320
490
70
55
30
160
70
280
420
60
110
25
No activity
No activity
No activity
No activity
No activity
No activity
No activity
No activity
No activity
No activity
No activity
No activity
As at December 31, 2006, the senior management of the Group’s segment activity
included four employees with the following positions: G.M., A.G.M. Finances, A.G.M.
Marketing and Sales and the comptroller. All the above management employees are
signed on personal employment agreements.
1
Several employees are part-time employees.
230
After the balance date, the holder of an additional senior position with the function of
Vice Director General began serving.
This function, which is mainly responsible for the business development and hotel
operations, is directly subordinate to the G.M. of Africa Israel Hotels and the
Directorate of Africa Israel Hotels. The A.G.M. Finances retains the responsibilities for
the finance department, acquisitions, information systems and auditing of the hotels.
The position of A.G.M. Finances is vacant as of the date of the Periodic Report and is in
the process of being filled.
1.13.12.3
The hotel school that is operated by the Group is meant, among other things, to train
workers in this industry so that they will be able to be integrated in the Group's work
force.
1.13.12.4
Most of the wage agreements with Group’s employees in this segment are according to
the collective agreements between the Israel Hotel Association and the General
Histadrut, which determines the entire work relationships in the hotel industry. This is
in addition to the personal contracts signed with some of the employees of Africa Israel
Hotels.
1.13.12.5
In this segment’s activity, the Group operates an independent instruction system based
upon a great deal of human knowledge that has been gathered over the years. Likewise,
the Group holds internal professional forums and runs a managerial reserve plan.
1.13.12.6
Below is a chart of the Group’s organizational structure in the segment’s activity on the
Periodic Report’s date:
231
General
Manager
VP –
Marketing
and Sales
Hotel
managers
Deputy
General
Manager
VP Finance
Business
Development
Finance
management and
hotel auditing
National
Reservation
Center
Project
Management
Computerization
and IT
Marketing
and Sales
Department
HR and
Training
Finance
Department
Standards IHG
Safety and
Security
Payrolls
Corporate
Assets
Customer
Credit
Advertising
Hotel
operations
Procurement
232
1.13.13
The main raw materials required for operating the Group’s hotels are food and
beverages, general operational equipment for the routine maintenance of a hotel.
Purchases are executed, from administrative standpoint, separately for each hotel.
However, the Group utilizes the advantage of its size to obtain preferred purchasing
conditions and signing contracts with suppliers for all the Groups chain of hotels.
1.13.14
Working capital
1.13.14.1
Customer credit
A.
In Israel, the credit that the Group allows its customers is in a span of 15 days from the
end of a calendar month in which the relevant invoice was made (that is, EOM +15) till
60 days from the end of a calendar month in which the relevant invoice was made (that
is, EOM +60). In Russia, the Group's policy in this segment's activity is payment in
advance, which coincides with accepted policy in Russia.
B.
The range of amounts of credit that the Group extended to its customers in this
segment's activity during 2004, 2005 and 2006 was NIS 30 million to NIS 45 million;
NIS 30 million to NIS 43 million, NIS 35 million to NIS 42 million, respectively. All
according the season (since this segment's activity is seasonally influenced).
C.
The Group customarily acts to protect its rights to receive the amounts extended as
credit, from time to time, through purchase of credit insurance, accepting guarantees,
bank and personal securities, deposits and so forth.
D.
The Group sets, from time to time, procedures for all the chain’s hotels concerning
credit for its customers.
1.13.14.2
Suppliers’ credit
A.
In Israel, the suppliers’ credit period is usually 60 to 90 days from the end of the
calendar month in which the relevant invoice was received (EOM + 60 – 90 days).
Under its activity overseas, the group does not receive suppliers’ credit except from
food suppliers who are paid about a week after the subject for payment was delivered.
B.
The average scope of credit extended to the Group in this segment's activity during
2004, 2005 and 2006 was NIS 16 to 28 million; NIS 28 to 36 million and NIS 33 to 43
million, respectively according to the season (since this segment's activity is seasonally
influenced).
1.13.14.3
Inventory policy
The Group customarily carries an inventory of food and beverages (an insignificant
amount), in consideration of supply time and availability of these products and
expiration dates for their use.
233
1.13.15
Financing
1.13.15.1
The Group finances its activity in this segment through independent resources, by loans
from institutional investors and bank credit from financial institutions. The bank credit
is extended to the Group’s corporations usually against liens made upon the Group’s
assets (usually, the hotels). However, there are routine liens as well as negative
obligations to meet financial standards.
1.13.15.2
To the best of the Company’s management, on the date of the Periodic Report, no
banking corporation has requested to have loans extended to the Companies in this
segment’s activity, to be paid immediately. On the date of the Periodic Report, the
Companies meet the set financial standards as aforesaid.
1.13.15.3
Restrictions for the Companies in this segment’s activity, for receiving credit – for
restrictions of the group of loaners, see paragraph 1.23.3.1 below.
1.13.15.4
Africa Israel Hotels is a guarantor, during the regular course of business, for the debts
of its subsidiaries and associated companies and vice versa.
1.13.15.5
Bonds issued by Africa Israel Hotels
A.
Negotiable bonds
Negotiable bonds that Africa Israel Hotels issued to the public during 1997 were
recently fully redeemed and their exchange paid to the holders. Before the payment of
the previous (and last) cycle of bonds, the Ma’alot Dirug Credit company gave them a
BBB- rating. Today, Africa Israel Hotels does have any bonds listed on the stock
market.
B.
Non-negotiable bonds
(1)
Bonds (Series C)
In accordance with the trust deed of May 3, 2004, Africa Israel Hotels issued, in a
private issue for institutional investors,1 Bonds (Series C) at NIS 142,333,342. These
were not listed on the stock market and are listed by name (below, “Bonds (Series
C)”).
Bonds (Series C) are linked (principal and interest) the Cost of Living Index as on
March 2004 and carry an annual interest rate of 5.8% paid quarterly. The annual
effective interest rate comes to approximately 5.93%. The Debenture (Series C) fund is
to be paid in 40 quarterly installments beginning in August 2004.
The Bonds (Series C) are secured by Company’s guarantee and by fixed lien of the first
order upon Africa Israel Hotels’ real estate, as this term is defined in the aforesaid trust
deed, including the building in use as a hotel with the name "Crowne Plaza."
1
“Institutional investors” – For this paragraph, it means investors as listed in the first addendum to the
Securities Law.
234
On the date of the Periodic Report, the number of Bonds (Series C) in circulation was
NIS 103,191.7 thousand, par value. The face value of the Bonds (Series C) on the date
of the Periodic Report was NIS 103.2 million. The balance of Bonds (Series C) in
circulation, including linkage for the date of the Periodic Report was NIS 106,787.3
thousand.
To the best of the Company management’s knowledge, it is Africa Israel Hotels’
intention to utilize the funds from this issue for business expansion and development.
Therefore, it engaged with the group in an agreement according to which, the funds
received from the Bonds (Series C) issue would be deposited at a subsidiary under the
Company’s ownership in an account linked to the Index and carry an annual interest of
5.95%. Africa Israel Hotels is entitled, subject to the subsidiary’s agreement, to request
the deposited funds, in whole or in part, by written notice that will be delivered in less
than seven (7) business days before the requested payment date.
(2)
Bonds (Series D)
In accordance with the trust deed of September 14, 2005, Africa Israel Hotels issued, in
a private issue for institutional investors, Bonds (Series D) at NIS 180 million par value.
These were not listed on the stock market and are listed by name (hereinafter, “Bonds
(Series D)”).
Bonds (Series D) are linked (principal and interest) the Cost of Living Index as on July
2005 and carry an annual interest rate of 3.7% paid quarterly. The annual effective
interest rate comes to approximately 3.75%. The Debenture (Series D) fund is to be
paid in a single installment September 14, 2008.
The Bonds (Series D) are secured by Company’s guarantee.
On the date of the Periodic Report, the number of Bonds (Series D) in circulation was
NIS 180 million, par value. The face value of the Bonds (Series D) on the date of the
Periodic Report was NIS 180 million. The balance of Bonds (Series D) in circulation,
including linkage for the date of the Periodic Report was approximately NIS 181
million.
1.13.15.6
Financial arrangements between the Group companies
According to an agreement1 from September 2004, Africa Israel Hotels deposited a sum
of NIS 135 million at Africa Finances for a period from May 11, 2004 and until May 6,
2014, carrying Index linkage differentials and an annual interest rate of 5.95%, all
subject to the aforesaid agreement’s conditions. The deposit, in whole or in part, can be
paid by prior notice of 7 days, by Africa Israel Hotels.
1
The General Meeting of Africa Israel Hotels approved the agreement during November 2004.
235
1.13.15.7
For additional details concerning the financing of the Groups activity, see paragraph
1.23 below.
1.13.16
Taxation
For details concerning the Group’s taxation and all its segments of activity, see
paragraph 1.24 below.
1.13.17
Restrictions on and regulation of the Corporation’s operations
1.13.17.1
The Group’s operations in this segment, is subject, among other things to approval by
the Israel Police, from the Ministry of Health, a business license and a permit for the
use of toxic substances (primarily in the swimming pools).
1.13.17.2
The Group’s activity is also subject to the various provisions of the law that arrange its
activity, among others, the Consumer Protection Law – 1981; the Licensing of
Businesses Law – 1968 (including the firefighting instructions); provisions and
directives of the Israel Police; the Foreign Workers Law – 1991, permits from the
Ministry of Health; authorizations from the Ministry of Industry, Commerce and
Tourism (including those concerning an “essential enterprise”) and the provisions of the
Tourist Services Law – 1976.
1.13.17.3
Concerning foreign workers, it is to be noted, that as of late, in light of decisions made
by the government, none of the foreign workers’ work permits were extended for the
hotel industry, except those workers defined as expert workers. Therefore, the Group
has ceased employing foreign workers in this segment’s activity except for some
individuals. All other work contracts with foreign workers were terminated.
With all that, as a result of enforcing operations which the Ministry of Industry,
Commerce and Tourism has undertaken (under which a number of fines have been
given to Africa Israel Hotels), there is a specific exposure to administrative fines
because of foreign workers in the hotel industry.1 This exposure is not specific to Africa
Israel Hotels but exists for the entire hotel industry.
1.13.18
The Group’s foremost goal in the tourism and resorts field is to expand its scope of
activity and boost its sales turnover. In order to realize these goals the Group intends to
expand its investment in the tourism product itself, which is to say, its investments in
hotels and infrastructure. The Group likewise intends to boosts its marketing efforts in
the following channels: increased sales to individual tourists, improvement of the
marketing system and penetration into incoming and business tourism, increased direct
1
According to the decision of the courts in Israel, [statute of] limitations for serving fines, due to the
employment of foreign workers, is 5 years. Therefore, there apparently exists an exposure to administrative
fines because of foreign workers even for a period after their employ had ended.
236
sales, etc
In addition, the Group intends to increase efforts to purchase additional hotels overseas.
1.13.19
Outlook for developments over the coming year
1.13.19.1
Towards the end of 2007, Africa Israel Hotels expects to open a new business hotel in
the Shalom Center (Azrieli) in Tel Aviv under the brand name “Crowne Plaza." In
parallel, the process of setting up two hotels in Russia, as aforesaid, will proceed.
1.13.19.2
Likewise, by the Company management’s assessment, during 2007, the purchase of the
hotel in Schwieberdingen near Stuttgart will be completed. This hotel will begin
operating during the third quarter of 2007. For details, see paragraph 1.13.5.7 above.
1.13.19.3
The information included in this clause is forward-looking information, which is based
on assessments by Africa Israel Hotels and on its experience in this segment’s activity.
This information may or may not materialize, depending on risks of non-realization for
reasons that are unknown to the Group at the date of the Periodic Report.
1.13.20
Events after the balance sheet date
1.13.20.1
On February 15, 2007, Africa Israel Hotels engaged in an agreement with a foreign
company to examine the possibility of purchasing a three-star hotel in the village
Schwieberdingen near the city of Stuttgart, Germany. For details, see paragraph
1.13.5.7 (E) above.
1.13.20.2
On March 11, 2007, Africa Israel Hotels engaged in a memorandum of understanding
with two foreign companies to examine the possibility of purchasing 60% of their direct
or indirect holdings in four hotels located in the center of Bucharest, Romania. For
details, see paragraph 1.13.5.7 (F) above.
1.13.20.3
During March 2006, Africa Israel Hotels, through its subsidiary, engaged in an
agreement to lease space in the Shalom Center (Azrieli) in Tel Aviv. For details, see
paragraph 1.13.5.7 (A) above.
1.14
Operations that do not amount to segments
1.14.1
Capital market operations
1.14.1.1
General
A.
In general, the capital market is a dynamic market with many players in a variety of
areas and at varied activity volumes. The capital market operations are affected, inter
alia, by state, political, security and economic factors in Israel and worldwide, and
accordingly operations in this market are highly volatile. Operations in the capital
market are divided into primary market operations (capital raising through issuance of
securities) and secondary market operations (trading in issued securities).
B.
The Group's capital market operations are conducted in four principal capacities as
follows: (a) investing its own capital (Nostro); (b) underwriting and issuance management;
(c) mutual fund management; (d) investment portfolio management.
237
C.
In September 2005, the Company founded Africa Israel Financial Assets and Strategies
Ltd. ("Africa Finance"), a wholly-owned subsidiary, inter alia for the purpose of
centralizing the Group's capital market operations.
D.
For details pertaining to the acquisition of the management operations of the 4 mutual
funds managed by Emda Mutual Fund Management Ltd. ("Emda"), a wholly-owned
subsidiary of Bank Hamizrahi Tefahot Ltd. ("Mizrahi Bank"), see Section 1.14.1.5 (B)
below.
E.
In December 2006, Africa Finance
completed a transaction ("the Acquisition
Transaction") in frame of which Africa Finance acquired (from existing shareholders
and by way of allocation) 60% of the issued and paid-up capital of Africa Israel
Investment House Ltd.1 (formerly: Artrade Financial Engineering Ltd.) ("AFI Investment
House"), in effect as of October 2006, in consideration for approximately NIS 27 million
that were invested in AFI Investment House and approximately NIS 5.4 million that were
paid to AFI Investment House's shareholders. In frame of this transaction, Africa Finance
transferred to AFI Investment House its holdings in corporations that are active players in
the underwriting and issue management segment, see also Section 1.14.1.4 (A) below, and
in the mutual management segment, see also Section 1.14.1.1 below, for the total
consideration of approximately NIS 27.6 million, in a manner that its (indirect) holdings in
these corporations declined from 100% to 60%.
The provisions of the acquisition
agreement set, inter alia, that the parties shall operate in the segments they engaged in on
the eve of the acquisition, as well as in mutual fund management, underwriting, securities
portfolio management, provident fund management and any other financial segment
operation as shall be approved by the board of directors of the said companies. In addition,
new operations shall be conducted in the companies in the financial services segment,
including product issue, ETF (exchange-traded mutual fund) or (subject to restrictions)
REIT funds (real estate investment funds).
F.
As of December 31, 2005, and as of December 31, 2006, the Group had 3 employees and
27 employees, respectively, working in its capital market operations.
1.14.1.2
In 2005 and 2006, Africa Finance's (consolidated) net (after tax) profit (loss) amounted to
approximately NIS 14 million (profit) and approximately NIS (3.8) million (loss),
respectively.
1
The remainder of AFI Investment House's shares are held by the shareholders on the eve of the transaction
with Africa Finance (15%) ad by Michael Davis himself, directly or through companies wholly owned by
him and/or by his offspring as well as up to 30% of his holdings held in trusteeship for others, as specified in
the agreement concerning the Acquisition Transaction (25%), that had acquired its holdings in AFI
immediately before the said holdings were acquired by the Company.
238
1.14.1.3
Investment of self-capital (Nostro)
A.
As of 2005, the Company's own investment operations in the Group's securities and
financial instruments ("the Nostro Operations") are conducted through Africa Finance.
The Nostro Operations include, inter alia, the following operations: (a) management of
hedges of the Group's exposure deriving from loans taken in various currencies; (b)
management of derivatives, including interest (shekel interest and foreign currency
interest), FX and Maof derivatives; (c) negotiable securities and bonds portfolio
management. The Group's said Nostro operations include also operations of a commercial
nature, as opposed to operations of an investment nature.
B.
The Company does not have an established Nostro policy, and its Nostro operations are
conducted at the discretion of the Group's employees and subject to the resolution of the
Company's Board of Directors dated August 2003, as amended in March 2005, that set that
the exposure of the Group's derivatives operations (including hedging and other
transactions) is not to exceed USD 40 million. For details of the Group's derivative
positions, see the Company's Report of the Board of Directors for the Year 2006.
1.14.1.4
Undertaking and issue management
A.
In May 2006, Africa Finance established Africa-Israel Underwriting Ltd.
("Africa
Underwriting") as its wholly-owned subsidiary, to operate in the Israeli underwriting and
issue management segment ("the Underwriting Segment"), and immediately thereafter
Africa Underwriting commenced its operations in the Underwriting Segment. For details
of the sale of the holdings in Africa Underwriting to AFI Investment House in frame of the
Acquisition Transaction, see Section 1.14.1.1 (E) above.
B.
The underwriting market is regulated in the Securities Law and in the Securities
Regulations (Underwriting) -1993 ("the Underwriting Regulations"). The underwriting
operations, including Africa Underwriting's underwriting operations, are also under
supervision of the Securities Authority. The Underwriting Regulations set, among others,
the conditions required for the qualification of an underwriter, including minimum
shareholders' equity, insurance coverage for the underwriter's liability for damage caused
due to a misleading detail in a prospectus, and certain requirements in respect to the
composition of the underwriter's board of directors. During 2003 and 2004, the Antitrust
Commissioner set that, other than under specific circumstances, cooperation between
leading competing underwriters shall constitutes a cartel as the meaning set against it in
the Antitrust Law -1988. in February 2007 the Knesset Finance Committee approved the
Securities Regulations (Manner of Public Securities Offering) -2007 ("the New Offering
Regulations") and the Securities Regulations (Underwriting) (Amendment) -2007 ("the
New Underwriting Regulations"). The New Offering Regulations regulate the new
underwriting method. The New Underwriting Regulations supplement, inter alia, the
239
conditions required for the qualification of an underwriter, allow the operation of foreign
underwriters in Israel, and impose limits on the operations of underwriters. The Company
estimates, that the New Offering Regulations and New Underwriting Regulations may
increase competition in the underwriting segment, and may allow the Group to enjoy new
opportunities. On the other hand, the New Underwriting Regulations may limit and/or
prevent the Group from participating in underwriting the issues of related parties.
C.
The services rendered by the Company in this segment are underwriting services in respect
to public securities offerings based on a prospectus ("Public Offerings"), i.e. Africa
Underwriting undertakes in an underwriting undertaking to purchase the securities not
taken up by the public, thus assuring for the issuing company raising of the capital it
required.
D.
In respect to undertaking services it should be noted, that by law the underwriter
underwriting a prospectus is responsible for the details contained in the prospectus.
Accordingly, Africa Underwriting (itself and/or through the manager of the underwriters
consortium on its behalf) is required to conduct examination procedures in respect to the
issuing company, comprising legal, accounting and at times economic examinations, that
are designed to ensure that the prospectus does not contain misleading details (as the
meaning set against it in the Securities Law). Africa Underwriting insures its liability as
required by law, however in practice the scope of exposure is higher than the scope of the
said insurance coverage.
E.
The Group's revenues from underwriting operations are determined mostly while taking
into account the scope of capital raising and the level of risk associated with the issue. The
principal commissions the Group is entitled to when underwriting and managing a public
securities offering are: underwriting commissions – that is divided between the
underwriters who assume underwriting liability of the issue; participation commissions –
payable to underwriters who are not consortium managers; and management commissions
– payable to the managers of the underwriters consortium. In some cases, the Group is
also entitled to receive success commissions, based on the issue outcomes.
F.
In 2006, Africa Underwriting undertook underwriting undertakings in respect to 29 public
offerings.
Until the date of the Periodic Report, Africa Underwriting undertook
underwriting undertakings with respect to 19 public offerings.
G.
to the best of the Company's knowledge, considering the extensive competitiveness in the
underwriting segment, the scope of the Group's operations in this segment is immaterial.
The Company estimates, that the "Bachar Legislation", see also Section 1.14.1.5 (F)
below, may lead to increased competition due to the introduction of international entities
to the asset management segment in Israel, as well as to the underwriting market in Israel.
240
1.14.1.5
Mutual fund management
A.
In April 2006, Africa Finance established Africa Israel Mutual Fund Management Ltd.
("Africa Funds"), as a wholly-owned subsidiary for the purpose of centralizing its
operations in the mutual fund management segment in Israel ("the Funds Segment"). For
details of the sale of the holdings in Africa Funds to AFI Investment House in frame of the
Acquisition Transaction, see Section 1.14.1.1. hereinabove.
B.
In June 2006, the Group completed a transaction in frame of which it purchased from
Emda the mutual fund management operations of 4 mutual funds out of the 42 mutual
funds managed by Emda, for a consideration of approximately NIS 24 million, and
subsequent to the acquisition Africa assumed management of these funds.1
C.
As of December 31, 2006 and as of the date of the Periodic Report, Africa Funds managed
14 mutual funds, with varied investment policies, at the total approximate volume of NIS
1,135 million and NIS 1,870 million, respectively.
D.
A mutual fund is a legal instrument, allowing common investment in securities of an
unlimited number of individuals, corporations and other entities (anonymous to one
another), under management of a single investments manager, the fund manager. Each
mutual fund has a stated investment policy that is strictly followed by the fund manager
while purchasing securities for the same. The mutual fund issues to its investors
participation units representing a proportionate part of the fund assets. These units can be
redeemed at any of the banks and stock exchange members. A mutual fund is an accepted
investment instrument in investment portfolios, mainly those of individuals. This financial
instrument embodies a number of advantages, among them tax benefits and the ability to
achieve dispersed investment under professional, expert management.
E.
Engaging in mutual fund management is regulated in the Joint Investment Trust Law –
1994 ("the Funds Law") and the regulations regulated based on the same. The Law sets
the conditions for the qualification of a fund manager and comprises provisions setting the
permits required for setting up a mutual fund, the duty of publishing a prospectus for the
fund, the duties imposed on fund managers and trustees, transactions that the fund manager
may effect in the fund assets, actions that the fund manager, trustee and their controlling
entities are prohibited from, ways to approve material transactions and transactions that
may have conflict of interest inherent in them, provisions in respect to setting unit prices,
minimum shareholders' equity of the fund manager, and provisions regulating the fund
manager's duty to acquire insurance coverage and the scope of the coverage it is required
to acquire. The Law regulates also the duty of preparation of various reports that the fund
1
It should be noted, that prior to acquiring holdings in it, as specified in Section 1.14.1.1 E above, EFI
Investment House ((formerly: Artrade Financial Engineering Ltd.) rendered to Emda, and later to Africa
Funds, current management services of various mutual fund assets and management services.
241
manager is required to submit, including monthly reports to the Securities Authority about
the assets of each fund, its obligations, payments made out of its assets, and additional
details. The Law sets that that the fund manager is responsible towards a unit owner for
damage caused to the same due to breach of any provision of the provisions of the Funds
Law, any provision of the fund prospectus or the fund agreement.
F.
In August 2005 the Law to Increase Competition and Reduce Centralization and Conflicts
of Interest in Israel’s capital market (Legislation Amendments), 5765 – 2005 ("the Bachar
legislation") was published. The essence of the Bachar Legislation is the separation of the
provident funds and the mutual funds from the banks. However, the Bachar Legislation
comprises, inter alia, an article that allows the banks to receive a "distribution"
commission from the managers of the provident funds and the mutual funds, at a rate that
shall be set in the regulations by the force of the Bachar Legislation. In January 2006 the
Knesset Finance Committee approved the said regulations, and the rates of the distribution
commission. The Company estimates, that the Bachar Legislation resulted in a part of the
non-banking sector in the customer finances management segment growing at the expense
of the former banking sector. The Company estimates, that this development allowed the
Group to increase the scope of its operations. On the other hand, it should be noted that
the Group is required to pay distribution commissions to the banks (as specified below)
that offset some of the said increase in revenues.
Commencing in April 2006, the banks began charging distribution commissions from
customers asking to purchase units in mutual funds the managers of which did not enter
into distribution agreements with the banks. In order to allow customers to purchase the
funds of Africa Funds in banks, without paying sales commissions, Africa Funds entered
into distribution agreements with the various banks, by virtue of which it bears payment of
the said commissions, thus exempting the customers from the necessity of paying the
same.
G.
The Funds Segment is affected also by tax legislation, including the tax reform introduced
following the "Rabinovich Committee", that allowed the establishment of "exempt" funds,
the holders of which are required to pay tax only on redemption of the units, and including
equalization of the tax regime in respect to foreign securities, that encourages
the
establishment of funds focused on overseas investments, thus increasing the number of
"products", the volume of operations and the number of customers.
H.
The Group's revenues from this segment of operations derive from management fees
charged in respect to management of the mutual funds.
I.
The mutual fund market is characterized by intense competition. The large players in this
segment have high access to the wide public, and have at their disposal organizational and
economic resources that provide them with competitive advantage over the competition.
242
To the best of the Company's knowledge, considering the aforesaid as of the date of the
Periodic Report, the market share of the Group in the mutual funds segment is immaterial.
1.14.1.6
Portfolio management
A.
Commencing on the date of acquisition of AFI Investment House, as specified in Section
1.14.1.1 (E) above, the Group operates also in the segment of finance and investment
portfolio management for third parties ("the Portfolio Management Segment").
B.
In November 2006, AFI Investment House established Africa Israel Investment Portfolio
Management Ltd. (formerly: Brosh Zeelon Financial Products Ltd.) ("Africa Portfolio
Management") as its wholly-owned subsidiary. In February 2007 Africa Portfolio
Management received its portfolio manager's license, and the Group intends to transfer its
portfolio management operations to Africa Portfolio Management by way of assignment of
agreements entered into in respect to these operations with customers of AFI Investment
House.
C.
Customer investment portfolio management, marketing and consultancy are regulated in
the Regulation of Investment Consultancy, Investment Marketing and Investment Portfolio
Management Law-1995 ("the Consultancy Law"). According to the Consultancy Law,
investment portfolio management, investment marketing and investment consultancy
activities must be conducted by a competent licensee ("the Licensee"). The Consultancy
Law contains provisions in respect to the duties of the Licensee towards the customer. In
this context the Law defines and sets the duty of loyalty and the duty of care owed by the
Licensee to the customer, its duty to adapt the service to the customer's needs and the duty
to notify the customer of the existence of a conflict of interest between the Licensee's
interest and the customer's. Until the Bachar Legislation, see also Section 1.14.1.5 (F)
above, the holder of an investment portfolio management license was prohibited from
giving precedence to the securities or financial assets of the Licensee or a related
corporation. Subsequent to the amendment to the Consultancy Law in frame of the Bachar
Legislation, investment marketers and investment portfolio managers may give precedence
to a financial asset in which they hold interest, over another financial asset that is similar to
the original asset in terms of its suitability for the customer and in which they hold no
interest, provided that they comply with all the requirements of disclosure to the customer.
In addition, a marketer's interest or a portfolio manager's interest in a financial asset shall
not constitute a conflict of interest between it and the customer that requires receiving the
customer's prior written approval for the transaction. The Law sets that the Licensee shall
enter into a written agreement with the customer, in respect to provision of the service, and
sets the current reports that the same is required to submit to the customer. In addition, the
Law sets the actions of the Licensee that require the customer's prior written approval,
such as securities transactions that are defined as associated with high risk. The Law also
243
sets prohibitions and restrictions on independent operations of the Licensee in securities
and duties in respect to separation of the Licensee's assets from his customers'.
In
addition, the consultancy Law sets that an investment portfolio manager is required to
draw-up insurance covering its liability for any negligent act or oversight towards a client
and breach of its employees' confidence.
The Prohibition of Money Laundering Law -2000 ("the Prohibition of Money
Laundering Act") also applies to investment portfolio managers, and requires them to
take a variety of steps to identify their customers and verify their particulars.
D.
The Group, through stock exchange members, manages investment portfolio of customers
who provided it with a power of attorney to act in their accounts in respect to management
of their investments. The said management of investment portfolios is conducted at the
discretion of the investment portfolio managers, subject to the investment policy dictated
by the customer, and defines mainly the maximum risk that the customer wishes to be
exposed to and his specific needs. The investment portfolio managers buy and sell for their
customers listed securities, deposit for them money in bank deposits, buy and sell mutual
funds (including mutual funds that are managed by the Group) and other financial
instruments. In frame of the service rendered to customers, it is the role of the investment
portfolio managers to identify market trends to the extent possible and to adapt the
investment portfolio to the customer's needs, in considering the financial position, the
investment goals and the personal investment profile of the same. The operations of the
Group are backed by investment committees, analytical departments and wide policysetting forums that are conducted in frame of the Group's operations in the capital market
segment.
E.
The Company has private customers who are individuals or corporations, as well as
institutional customers (at an immaterial scope). In addition, AFI Investment House and/or
Africa Investment Portfolio Management manage investment portfolios of interested
parties in the Group (at an immaterial scope) and other corporations in the Group. The
investment portfolio of the private customers are characterized by relatively small scopes
and higher interaction between the portfolio manager and the customer, compared with the
investment portfolios of the institutional customers, that are of a significantly higher
volume.
F.
The portfolio management operations are characterized by the investment portfolio
managers being given power of attorneys by customers, allowing them to execute
operations in customer accounts at their discretion, within the limits of the investment
policy dictated by the customer. These operations are exposed to the possibility of the
portfolio managers exceeding the authorization granted them in the power of attorney, and
causing losses to customers who will demand indemnification for their damages. Other
244
than human errors, there exists also the risk of intentional actions by employees, such as
embezzlement. As specified in Section 1.14.1.6 above, the Consultancy Law sets that an
investment portfolio manager is required to draw-up insurance covering its liability for any
negligent act or oversight towards a client and breach of its employees' confidence.
G.
The majority of the Group's revenues from investment portfolio management derive from
management fees. The management fees paid by each customer derive from the size of his
investment portfolio, the number of operations executed in the investment portfolio, and
the composition of the portfolio (shares, bonds, short term loans etc.).
H.
The investment portfolio management segment is characterized by intense competition
and erosions of rates over recent years. The Group's main competitors in this segment
are the banks and the large insurance companies that together control a large share of the
market. The banks and the insurance companies have an advantage over the Group,
deriving mainly from their accessibility to their customers (to whom they grant other
essential services also on the branch/local level across the country) and the ability to
approach them directly in marketing their products and services. Alongside the said
entities, operate also a number of non-bank entities that are not counted among the large
insurance companies, and that also compete with the Group in this segment of its
operations. To the best of the company's knowledge, in considering the aforesaid as of
the date of the Periodic Report, the Group's market share in the portfolio management
segment is immaterial.
1.14.1.7
New products
The Group is examining the possibility of issuing financial products, including structured
products (though special purpose entities). As of the date of the Periodic Report, a new
such product is has not yet been issued, and there is no certainty that such a product will be
issued in the future.
1.14.2
The prison privatization tender
On January 2, 2006 an agreement was signed for a project involving the planning,
construction, activation, operation and financing of a prison south of Be'er Sheva (below
in this Section - "the Agreement"), between the State of Israel and the Israel Prison
Service (below in this Section - "the Client") and ALA Management and Operations
(2005) Ltd, a private company jointly owned by the Company and Minrav Engineering
and Construction Ltd. (below in this Section - " Minrav Engineering") (in equal shares)
(below in this Section - " the Bidder").
The Prison is designed to hold about 800 inmates. The agreement entered in to between the
Client and the Bidder is a PFI engagement, the term of which is 25 years (including the
construction period) commencing on October 15, 2006. The total annual revenues to be
received by the Bidder for operating the prison for the approximate period of 22 years (the
245
agreement period less the estimated construction period) is estimated at approximately NIS
64 million (not including VAT) for each planned operation years. In addition, the Bidder
is entitled to receive a construction bonus in the approximate amount of NIS 47 million
(not including VAT), payable to the Bidder upon completion and receipt of permission to
operate the prison. Receipt of the said revenues by the Bidder is subject to the terms of the
agreement and to the Client's right to shorten the term of the agreement at its discretion,
commencing 8 years from the date on which the agreement comes into effect, and under
the terms set in the agreement.
The project construction works, that have commenced in October 2006, are carried out
jointly by Minrav Engineering and the subsidiary Danya Cebus, in accordance with an
agreement in principal dated August 2005 between the parties. The financial closing for
the project was finalized in March 2006
A High Court of Justice appeal is pending against the prison privatization. In a related
deliberation on August 31, 2006, it was resolved that the hearing of the appeal shall be
postponed by 6 months.
According to a decision dated March 11, 2007, the case will be heard before recess. As of
the date of the Periodic Report, a date has not yet been set for the hearing of the appeal.
Should the appeal be granted, the Bidder shall will be entitled to compensation in the
amount of the direct costs spent by it, as and in the amount approved by the Client, as
specified in the Agreement.
246
CHAPTER 4 – SUPPLEMENTARY INFORMATION
AT THE COMPANY LEVEL
1.15
Human capital
1.15.1
For details pertaining to the human capital in each of the Group's various segments, see
paragraphs 1.8.1.9, 1.9.4.7, 1.10.11, 1.11.9, 1.12.13 and 1.13.12 above. It is clarified
that aforestated in paragraph 1.15 refers to employees of the Company.
1.15.2
Following is the Company's organizational chart as at the date of the Periodic Report:
Board of Directors
CEO
Additional Internal
Operations Auditor
Russia
Deputy
Senior
Deputy
Deputy Deputy
Housing
CEO
Deputy CEO for CEO for CEO for Division
and
CEO for Marketing Planning Resources Manager
Company Finance
and
Economy
Secretary
Mall
Property Europe
East
Division Division Division
Asia
Manager Manager Manager Division
Manager
In Israel
US
CEO of
CEO of
Africa Israel
Danya
Housing Ltd. Cebus Ltd.
CEO of
Africa Israel
Investment
House Ltd.
CEO of
Africa Israel
Properties
Ltd.
CEO of
Gottex
Models
Ltd.
CEO of
Christina
America
Ltd.
CEO of
Packer
Plada
Ltd.
CEO of
Africa Israel
Hotels
Ltd.
247
1.15.3
The Company's human capital function is organized, as at the date of the Periodic Report,
in a structure based on divisions, as follows: the HQ division, residential division, rental
properties division, mall division, European division and East Asian division.
The Company directly employs 122 employees as at December 31, 2006.
1.15.1
HQ division
The HQ division contains the following sections: finance and IS, resources, business
development, Company secretariate, and internal auditing. The managers of these sections
(excluding the manager of the IS section who is subordinate to the Deputy CEO of
Finance) are directly subordinate to the Company’s CEO and provide professional services
to the Company and several Company subsidiaries, pursuant to management agreements
signed with them (for details see paragraphs 1.9.1.8 and 1.8.1.9 below).
These sections are managed by highly experienced managers who activate the following
small, professional work teams:
Unit
Finance & IS
1.15.3.2
No. of employees
at date of Periodic
Report
23
Business
development
Resources
4
9
Secretariate
4
Office
9
Internal Audit
3
Total
52
Residential division
The residential division is engaged in real estate development in Israel. Shortly following
the issuance of Africa Israel Residences' securities on the TASE, the employees of this
division, who had been hitherto employed by the Company, were transferred to Africa
Residences. For additional details, see paragraph 1.8.1.9 below.
1.15.3.3
Rental properties division
The Company's rental properties division was established in 2004, and focuses on the
management and improvement of properties in Israel, as well the identification of
additional land and properties. As at the date of the Periodic Report, the division comprises
6 employees and a manager. The rental properties division receives services and direct
support from the Company's HQ division.
248
1.15.3.4
Mall division
The Company's mall division was established in 2000, and it concentrates mall
management and improvement operations in Israel. The mall division, as at the date of the
Periodic Report, includes a mall division manager. The division receives services and
direct support from the Company's HQ division.
1.15.3.5
European division
The Company's European division was established in 2005 and largely engages in project
development and construction in Europe.
As at the date of the Periodic Report, the division has 9 employees who are directly
employed by the Company.
The division staff comprises professions with extensive managerial and professional
experience in Israel and overseas. The staff directly supervises the local and Israeli
individuals employed by the Company's subsidiaries in various countries in Europe in
which the Group operates.
1.15.3.6
East Asian division
The East Asian division was established in 2005. This division is comprised of the division
manager and two employees, who are employed by the Company.
The division identifies real estate investments in East Asia in the following sectors:
residential real estate, rental properties and malls.
1.15.4
Company employees are employed under individual contracts that are signed with each
employee when joining the Company. All employees are eligible for a contribution to a
provident fund/pension fund by the Company in the amount of 5% of their gross salary.
The majority of employees are eligible for a contribution by the Company to a continuing
education fund in the amount of 7.5% of their gross salary. Furthermore, the Company
generally purchases work disability insurance for its employees at the cost equaling 2.5%
of their gross salary. The Company's liabilities to employees in respect of severance pay
are partially covered by ongoing deposits into individual severance pay funds and/or
central several pay funds. A provision was made in the Company's books in respect of the
balance of the amounts in respect of said liabilities.
1.15.5
The Company maintains internal policies and procedures that regulate its operations in its
various operations including attendance reports, reimbursement of personal expenses,
financing of educational expenses, seminars and courses, etc.
1.15.6
The Group tends to invest in its human capital using various methods, including, among
other methods:
1.15.6.1
Training – the Company invests extensive resources in employee intake, mentoring,
training and professional development. At the beginning of each year, the Company
249
assesses its training needs and uses the assessment to construct training programs that meet
the Company's needs.
1.15.6.2
Employee reward programs - The Company maintains several reward programs designed
to encourage and create incentive for its employees to improve their professional
performance and achievements in their jobs with the Company, such as annual bonuses
that are awarded following a performance review procedure conducted by the Company,
and on the basis of recommendations by the relevant division manager (generally payable
in April each year). Furthermore, the Company maintains a reward program based on sales
for the Company's marketing and sales representatives.
1.15.6.3
Social benefits – The Company invests extensively in cultivating employee satisfaction,
through a broad range of division, departmental and individual activities that take place
throughout the year.
1.15.7
Mr. Lev Leviev, Chairman of the Company's board of directors and controlling owner, is
employed on the basis of a service agreement that was signed between the Company and a
company owned and controlled by the Company's controlling owner, see paragraph 1.26
below.
1.15.8
Mr. Erez Meltzer, Company CEO (who serves in this position since August 2006) is
employed on the basis of an individual contract. Furthermore, in December 2006, the
Company approved an option plan for the CEO under the capital gains track of section 102
of the Income Tax Ordinance, through a trustee. For additional details, see the Company's
immediate report dated December 25, 2006 (ref. No. 2006-01-172060). The information in
these reports on the above issues is included herein by this reference.
1.15.9.
Company officers (who are not directors) are employed on the basis of individual
contracts. Said officers (excluding the CEO) are generally eligible, pursuant to their
contracts, among other things, to an annual monetary bonus, according to a decision by the
CEO, based on the results of the Group's operations under their responsibility. Options to
purchase subsidiary shares were allocated to several officers and managers in subsidiaries
of Africa Properties and Africa Residences (including officers employed by the Company),
under an employee option plan under the capital gains track of section 102 of the Income
Tax Ordinance, through a trustee.
1.15.10
For details on the management agreement dated in June 2006 including the addenda
thereto, signed by the Company and Africa Residences, including with reference to the
transfer of several Company employees (who effectively handle the affairs of Africa
Residences) to Africa Residences, such that they will be directly employed by Africa
Residences, see paragraph 1.8.1.9 above.
1.15.11
For details on the management agreement dated July 2004, including the addenda thereto,
250
signed by the Company and Africa Properties including with reference to the transfer of
several Company employees (who effectively handle the affairs of Africa Properties) to
Africa Properties, such that they will be directly employed by Africa Properties, see
paragraph 1.9.1.8 above.
1.15.12
For details on the indemnification of officers and directors in several Group companies,
see Note 21 to the Company's financial statements as at December 31, 2006.
1.15.13
Subject to that stated above, no material change has occurred in the structure of the
Company's human capital and the number of its employees in the last 3 years.
1.16
Working capital
1.16.1
For details pertaining to the working capital of each of the Group's segments of operation,
see paragraphs 1.8.11, 1.9.1.10, 1.10.14, 1.11.11, 1.12.15, and 1.13.14 above.
1.16.2
Following are further details concerning the Group’s working capital:
1.16.2.1
The Group’s working capital ratio, as at December 31, 2006, was 1.22 (compared to 1.2
as at December 31, 2005, and 0.88 as at December 31, 2004). As at December 31, 2006,
total current assets of the Group amounted to NIS 8,151 millions, compared to NIS 6,959
millions in December 31, 2005 and NIS 4,897 millions as at December 31, 2004.
1.16.2.2
The increase in the Group's current assets stemmed largely from an increase in accounts
receivable, negotiable securities, and cash and cash equivalents.
1.16.2.3
As at December 31, 2006, total current liabilities were NIS 6,651 millions, compared to
NIS 5,790 millions as at December 31, 2005 and NIS 5,790 millions as at December 31,
2005, and NIS 5,590 millions as at December 31, 2004.
1.17
Investments
Following are details of the Company's investments in several affilates, whose business
results are not consolidated in the Company's financial statements, and which are,
according to the Company's estimates, material to the Group's operations and/or may
become material to the Group's operations.
1.17.1
Alon Israel Fuel Company Ltd.
1.17.1
General
The Company holds (indirectly) 26.1% of the issued share capital of Alon Israel Fuel
Company Ltd (below, in this paragraph, "Alon"). Alon is a holding company, which
owns companies that operate in various fields of operation in Israel and overseas, and
primarily in the fuel and commerce sectors. Following are details of the Company's
holdings in Alon and its investments therein as at December 31, 2006:
251
Holding
company
Holding
Africa Israel 26.10%
Trade
&
Agencies Ltd.
Value
of Investment in
as
investment
in investee
of
investee
in share
Company's
Company's
books
(NIS shareholders'
equity
millions)
314
11%
Contribution
to Company's
net earnings
15%
As at the date of the Periodic Report, Alon's primary investments are as follows:
Alon holds 72.3% of the issued share capital of Alon USA Energy Inc. (below in this
paragraph 1.17, "Alon USA"), a company registered in Deleware and whose shares have
been listed for trade on the NYSE since 2005.
Alon holds 73.6% (through Bronfman Alon Ltd, a wholly owned and controlled
subsidiary, see paragraph 1.17.8.2 below) of the issued share capital of Blue Square
Israel Ltd (below, in this paragraph 1.17, "Blue Square"). Securities of Blue Square have
been listed for trade on the NYSE since 1996, and from 2000 on the TASE (dual
listing).1
Alon holds 90% of the share capital of Dor-Alon Israel Energy (1988) Ltd. (below, in
this paragraph 1.17, "Dor-Alon"), whose shares have been listed for trade on the TASE
since 2005.
1.17.2
Other shareholders in Alon and agreements between shareholders in Alon
To the best of the Company's knowledge, the major shareholders in Alon as at the date
of the Periodic Report are as follows:
Shareholder
Beilsol Investments (1987) Ltd 2 ("Beilsol Investments")
David Weisman3
Africa Israel Trade & Agencies Ltd.4
Mishkei Hanegev Aguda Shitufit Haklait Ltd.5
Holding
37.21%
2.00%
26.14%
5.66%
1
Blue Square holds two public companies whose shares are traded on the TASE. One – Blue Square Properties
and Investments Ltd in which Blue Square held 80% of its issued share capital as at December 31, 2006; and
two – Blue Square Real Estate Ltd in which Blue Square held 80% of its issued share capital as at December 31,
2006.
2
The shareholders in Beilsol Investments and their holdings are: Shibag Ltd (a company whose shareholders
are Attorney Shraga Biran, the estate of Professor Shohsana Biran, and Gera Boaz and Yiftah Biran), which
holds 79.4% in the equity and voting rights in Beilsol Investments; D.B.W Investments Ltd (a company
controlled and owned by David Weisman, CEO of Alon), which holds 19.8% of the equity and voting rights in
Beilsol Investments. Shibago Ltd (a partnership of Shibag Ltd (75%), and a company controlled by David
Wesiman (25%)) holds 0.8% of the equity and voting rights in Beilsol Investments.
3
The shares are held in trust for an option plan created under Section 102 of the Income Tax Ordinance for Mr.
David Weisman. The restriction period in respect of the shares has elapsed.
4
A wholly owned and controlled subsidiary of the Company.
5
A regional purchase organization owned by several kibbutzim (below, "Purchase Organizations"). All
Purchase Organizations that are shareholders in Alon have granted an irrevocable power of attorney to Delek
Holdings founded by the Kibbutz Purchase Organizations Ltd. (below, "Delek Holdings") to vote on their
252
Granot Irgun Shitufi Ezori, Aguda Shitufit Haklait Merkazit Ltd.5
6.00%
Mishkei Emek Hayarden – Aguda Merkazit Haklait Shitufit Ltd.5
5.81%
Shareholders in Alon including Beilsol Investments (1987) (below, "Beilsol"), Delek
Holdings (founded by Kibbutz Organizations) Ltd (below, "Delek Holdings"), and the
Company, through its subsidiary Africa Israel Commerce & Agencies Ltd (below,
"Africa")(below, jointly, "Shareholders in Alon"), and Alon signed a shareholder
agreement in 1994, amended in 1999 and 2005 (below, "the Shareholders Agreement").
The Shareholders Agreement provides, among other things, that all Shareholders in Alon
are eligible to appoint one director in Alon in respect of each 8% holding in Alon's share
capital.1 The chairman of the board will be the individual recommended by the Purchase
Organizations, to the extent that they hold no less than 30% of the share capital of Alon
and provided that the appointment is approved by the general meeting of Alon. The
Agreement further provided that the resolutions of Alon's board of directors on certain
matters, including the liquidation, merger, split or re-organization of Alon, issuance of
securities, modification in Alon's segments of operations, and material transactions, are
subject to a majority of over 75% of the members of the board present at the meeting, or
of the votes of shareholders in the general meeting, as the case may be. It was
furthermore provided that the above principles will apply until August 2009 and will be
renewed thereafter for one year at a time, unless any shareholder informs of his or her
with to discontinue renewal thereof.
In December 2006, an MOU was signed by the Shareholders in Alon (below, "the
MOU"), providing the principles agreed upon by the Shareholders in Alon of promoting
the sale offer of Alon shares by Shareholders in Alon, either in combination with or
subsequent to a public offer of Alon's bonds, during 2007 (below, "Alon Issue"),
including principles pertaining to the regulation of the relationship between Shareholders
in Alon following the completion of the Alon Issue. According to the MOU, the
Shareholders in Alon, with the exception of Beilsol, intend to offer between 20% and
25% of Alon's issued share capital to the public; Africa undertook to sell one third of its
holding in Alon, subject to a minimum defined company valuation at issue.
According to the MOU, if the Alon issue is completed, the Shareholders Agreement in
Alon will be cancelled and replaced by a new agreement (below, "New Agreement").
behalf in shareholders' meetings of Alon, and adopt resolutions by force of these shares at its discretion. To the
Company's best knowledge, Delek Holdings is a private company whose shareholders are purchase
organizations that are shareholders in Alon (including Mishkei Hamifratz (1993) Purchase Organization Ltd,
which holds shares in Alon through a subsidiary) and Purchase Organizations Secretariate & Regional Kibbutz
Factories Ltd, a company owned by the Purchase Organizations that are shareholders in Alon.
1
As at the date of the Periodic Report, four directors appointed by Beilsol Investments, four directors appointed
by the Purchase Organizations, and three directors appointed on behalf of the Company serve on Alon's board
of directors.
253
The New Agreement will include provisions regarding the mechanism for appointing
directors in Alon (in a manner that ensures the appointment of two directors
recommended by Africa for a period of 6 years following the issue of Alon, to the extent
that Africa holds at least 16% of the issued share capital of Alon), the appointment and
dismissal of Alon's chairman of the board, and the appointment and dismissal of Alon's
CEO. It was also provided that, Africa will have the right, for a period of three years, to
veto resolutions exclusively regarding the issue of Alon securities other than under a
public offering pursuant to the Periodic Report, and regarding any material change in
the existing segments of operations of the Alon Group.
It was also agreed that from the date of the MOU, and until the New Agreement enters
into effect, notwithstanding the provisions of the Shareholders Agreement, any new
transaction of Alon Group companies – excluding in the matter of entry into new
segments or operations or discontinuance of existing operations in a manner that
constitutes a material change in Alon's business (or in the business of any relevant
company in the Alon Group, as defined in the MOU) – requires an ordinary majority
vote.
According to the MOU, if the Alon is not completed by December 31, 2007, the MOU
will be cancelled, while the Shareholders' Agreement will be extended to August 25,
2010, subject to modifications agreed upon in the matter of defining "material
transactions" that require approval of a special majority.
1.17.3
Distribution of dividends by Alon
Alon distributed the following dividends to its shareholders, including the Company:
Year
2004
2005
2006
1.17.4
Dividend
millions)
--226
359
(NIS
Financial information
Alon is a material affiliate of the Company and therefore Alon's financial statements are
attached to the financial statements of the Company.
1.17.5
Economic environment and impact of external factors on Alon's operations
Alon is a holding company that owns companies engaged in diverse areas of operation.
The operations of Alon's investees operating in Israel are affected, among other things,
by the political and security situation in Israel and the Middle East, and the state of the
economy in Israel and in the world.
The operations of Alon's investee companies operating in the US are largely affected by
the state of the US economy, fluctuations in crude prices and the prices of oil products
254
produced at its refineries, changes in US (federal and state, in the states in which it
operates in the US) legislation regarding environmental issues, as well as other external
factors set forth in paragraphs 1.17.7.3, 1.17.4.14 and 1.17.17.5 below.
Alon and its investess are subject to risks pertaining to changes in interest rates, inflation
rates and currency rates, as well as fluctuations in raw material prices and the demand
for their products; these affect the business results of the said companies and the value of
their assets and liabilities.
Alon and its investees are subject to restrictions under law, or under the provisions of
various regulatory entities in their areas of operation, such as anti-trust provisions,
environmental provisions and provisions pertaining to regulation of products and
services. These regulations by force of law may limit Alon's ability to exploit business
opportunities for new investments, or increase or sell existing investments.
1.17.6
Description of Alon by segments
Alon operates mainly in the three following segments of operation:
1.17.6.1
Refining and production of fuel and food products in the US – this segment includes
refining and distribution of fuel products, the operation of combination filling stations
and convenience stores in the US, and the supply of fuels to the filling stations, through
Alon USA.
1.17.6.2
Retain and food segment in Israel – This segment includes the operation of chain stores
selling food and other products in Israel through Blue Square, and the operation of
chains of fast-food restaurants in Israel.
1.17.6.3
Distribution and fuel products in Israel – this segment includes the sale of fuels and other
products through fuel and commerce sites, and direct marketing of fuel products to
customers; operations are concentrated in Dor-Alon.
1.17.6.4
In addition to the above, Alon maintains several additional segments that are not material
for its total operations: a holding in the company operating a toll road in Israel,
investments in desalination plants, and natural gas exploration operations.
1.17.6.5
Following are the consolidated financial data of Alon by Alon's main segments of
operation. As at the date of the Periodic Report, Alon is a privately owned company and
therefore does not present [information on] financial segments. Therefore, the
information is not based on the consolidated financial statements of Alon but rather were
taken from the financial statements of each of the companies that concentrates each
segment of operation. With the exception of Blue Square, to whose results of operation
were added the results of operations of Pizza Hut and KFC chains, it is clarified that the
above data are not audited or reviewed and are presented to allow a general impression
regarding the scale of operations in each segment.
255
2004
Total
revenues less
levies
Gross profit
Operating
income
Total
revenues less
levies
Operating
income
Total
revenues less
levies
Operating
income
Refining
and Retail and food Marketing of Consolidated
marketing fuel in in Israel (NIS fuel in Israel (NIS
the USA (NIS millions)
(NIS millions) millions)
millions)
7,653
2,731
3,942
14,309
726
310.5
724
62
584
151
2,016
521
2005
Refining
marketing fuel in in Israel (NIS fuel in Israel (NIS
millions)
10,450
3,676
5,649
19,700
674
120
185
980
2006
Refining
marketing fuel in in Israel1 (NIS fuel in Israel (NIS
millions)
14,244
6,564
6,184
26,897
961
299
166
1,412
The growth in the scope of operations in the retail and food segment in Israel in 2005
stemmed largely from a change in the methodology used to consolidate the results of
Blue Square, from proportionate to full consolidation, from September 2005 onwards,
following the acquisition of part of a partner's holding in Bronfman Alon, which holds
shares in Blue Square. The increase in the scope of operations in the retail and food
segment in Israel in 2006 compared to 2005 stemmed primarily from the full
consolidation of the results of Blue Square in Alon's balance sheet over the entire year of
2006.
1.17.7
Refining and marketing fuel and food products in the US – Alon USA
1.17.7.1
General
Through Alon USA, Alon operates in the operation of refineries, and the sale of fuel and
256
other products including fuel products, through a chain of filling stations and shopping
centers (below, "convenience stores") in the USA. In 2000, through Alon USA, Alon
acquired certain assets and activities from the FINA concern, or Autofina Petrochemicals
Inc. (FINA and related entities below in paragraph 1.17.7, "FINA"). The acquired assets
and operations included a refinery in Big Springs, Texas, pipelines for the transport of
oil products, terminals, and operations and assets for the distribution and sale of fuel
products through a chain of filling stations which operates under the FINA brand, and
the management of a chain operating under the 7-Eleven brand, located primarily in the
following states: Texas, New Mexico, Arizona, Louisiana, Oklahoma and Arkansas in
the US.1 Alon USA was incorporated in 2000, under the laws of the State of Delaware,
US, for the purpose of the FINA transaction.
In February 2005, Alon USA completed the sale of pipeline systems and terminals to
Holly Energy Partners LP (below, "HEP"), a partnership, the securities of which are
listed for trade in the US, for a consideration of USD 120 millions in cash and 937,500
Class B junior participation units of Holly Energy Partners, the value of which at date of
transaction was USD 30 million. Concurrent with the said transaction, Alon USA and
HEP signed an agreement, pursuant to which Alon USA will pipe and store a minimum
volume of fuels in the above pipelines, terminals and tanks. The term of the agreement is
15 years. Alon USA alone has an option to extend the agreement for 3 additional periods
of 5 years each.
In March 2006, Alon USA sold oil pipelines that had been inactive since
December 2002, to Sonoco Logistic Partners LP (below, “Sonoco”) for a total
consideration of USD 68 millions. The pipelines were leased from Sonoco for 10 years,
with four options, each to extend the agreement by 30 months each. In 2006, Alon USA
renewed transport of crude in these pipelines.
In August 2006, Alon completed acquisition of Paramount Petroleum Corporation
(below – “Paramount”), owned of refineries in Paramount, California with a capacity of
producing 66,000 barrels per day. In addition, Paramount owns a 50% interest in an
asphalt terminal in Wilbridge Oregon (with a capacity of 12,000 barrels per day), and a
50% interest in Wright Asphalt Products Company, which specializes in the manufacture
of patented asphalt products, and 7 terminals for the distribution of asphalt on various
sites in consideration for USD 504 million.
In September 2006, Alon USA completed the acquisition of Edgington Oil Company
(below – “Edgington”), a crude oil refining company located in Long Beach, California
1
The acquisition was performed by Alon, through its subsidiaries and jointly with its shareholders or entities
under their control. In 2002, the share of Shareholders in Alon that had been acquired from FINA was acquired
by Alon USA.
257
with a capacity of 40,000 barrels of crude per day, for USD 93 million, including
inventory valued at USD 34 million.
In July 2006, Alon USA purchased 40 convenience stores in El Paso Texas, for USD 27
million, including inventory valued at USD 2 million.
In March 2007, Alon USA entered into an agreement to acquire 102 convenience
stores operating under the FINA brand, in central and western Texas, for a total
of USD 70 million. As at the date of the Periodic Report, completion of the
transaction is subject to conventional approvals and closing terms.
1.17.7.2
Segments of operation of Alon USA
Alon USA operates in three segments:
A.
Refining and sale of fuel products – in this segment, Alon USA operates three
refineries, one is located in Texas (Big Spring) (below, "Big Spring Refinery"), and two
are located in California (Paramount and Long Beach) (below, "Paramount Refinery"
and "Long Beach Refinery," respectively). The total production capacity of the three
refineries is 158 thousands barrels per day. At these refineries, Alon USA refined crude
oil into various distillates including gasoline, diesel, jet fuel, petrochemical products and
asphalt.
B.
Sale of asphalt – in this segment, Alon USA sells asphalt produced at three refineries in
Texas and California, as well as asphalt produced at the Wilbridge refinery in Oregon.
The asphalt is of various types and used for road and roof tarring.
C.
Sales in chain of convenience stores (filling stations and the convenience stores
operating on them in the US are known as "convenience stores" and shall be termed thus
in this paragraph) – in this segment, Alon USA operates a chain of 206 convenience
stores, either owned by Alon USA or leased under the 7-Eleven brand, located primarily
in western Texas and New Mexico.
1.17.7.3
General information of segments of operation of Alon USA
Oil refining is a process whereby carbon atoms in crude are separated and transformed
into fuel products such as gasoline and diesel. Refining is first and foremost a marginbased business in which raw materials and end products are commodities. Refineries
create value by selling refined products at a price that is higher than the costs of
purchasing and transforming crude into an end product. Results in the refining industry
are affected and measured as the difference between the prices of final fuel distillates
and the price of crude oil, known as the "refining spread".1
1
The relevant refining spread for the Big Spring Texas refinery is a spread known as "Gulf Coast and 3/2/1
Crack Spread" (below, "3/2/1 Gulf Spread"). This spread is calculated on the assumption that three barrels of
crude are refined into two barrels of gasoline and one barrel of diesel fuel, and the difference in price between
the three end product barrels and the cost of the three crude barrels. The relevant refining spread for the
258
The refining industry in the US has undergone a process of improvement since the
1990s, which has resulted in an increase in the relevant refining spreads.
The refining industry in the US is characterized by limited production capacity, a high
refinery utilization rate, high demand for end products, and higher dependency on
importation of oil products. In recent years, larger price differences developed between
various types of crude (sour), whose production by OPEC increased, while refineries
prefer sweet crude, which has a reduced sulfur content.
Since the 1980s, the total production capacity of the refining industry in the US has
declined, primarily to due regulatory issues. According to the Energy Information
Administration (EIA), the number of refineries in the US has declined from 321 in 1981
to 132 in 2005. The largest major refinery in the US was constructed in 1976.
According to the EIA, while the total refining capacity in the US declined by 10% from
6.8 billion barrels in 1981 to 6.1 billion barrels in 2003, the demand for end products
rose by 24.8% in the same period, from 5.9 billion barrels to 7.3 billion barrels.
According to the same source, the utilization rate1 of US refineries increased between
1982 and 2003 from 69% to over 92%, and is close to the maximum effective utilization
rate.
Due to the shortage of fuel refining capacity, the US is a net importer of oil products.
1.17.7.4
Products and services – Alon USA
The main distillates produced by the Big Spring refinery are various types of gasoline –
46%, diesel and jet fuel – 32%, and asphalt – 9%. The remainder are petrochemical
products including propane, propylene, aromatic products and others.
Since the acquisition of the refineries in California (paramount and Long Beach) by Alon
USA in 2006, these refineries refined 31.6% of the crude into high value distillates
including gasoline, diesel and jet fuel; 34.4% into asphalt, combustion oil and suphur.
The remainder of 34% was sold as unfinished products to other refineries.
In Alon USA's asphalt manufacturing facilities, asphalt is manufactured under a license
obtained from Wright Asphalt (a company in which Alon has a 50% interest) for the use
of patented technology to manufacture rubber for tires.
In its convenience stores, Alon USA sells gas, diesel, food and beverages (including
alcoholic beverages) and other products to the general public, under the brands names
FINA and 7-Eleven.
refineries in California is the spread known as the "West Coast 3/2/1 Crack Spread" (below, "West Coast 3/2/1
Spread"). This spread is the result of the sum of the price of two West Coast LA CARBOAB barrels of gasoline
in the pipeline, and the price of a single barrel of LA #2 CARBOAB diesel, after deducting the cost of three
barrels of WTI/MAYA crude.
1
For the definition of this term, see footnote to paragraph 1.17.7.9 below.
259
1.17.7.5
Along USA markets the fuel products manufactured in its refineries and fuel products
purchased from others as a wholesaler through a network of pipelines and terminals, and
as a retailer, through the convenience stores. Some of the fuel products are sold under the
FINA brand, while others are not branded.
The Big Springs refinery pipeline is connected to major pipelines of third parties in the
vicinity of the refinery. This network allows Alon USA to transport fuel products to
other regions, primarily in New Mexico and Arizona. The pipelines network comprises
837 miles of pipeline owned or leased by Alon USA. Alon USA additional owned 6
terminals (of which 3 are owned and 3 are leased) where fuel products are issued in
Texas and Oklahoma and have a total annual capacity of 1,079 thousand barrels.
The gasoline manufactured at the Big Spring refinery are sold primarily to a chain of
1,200 convenience stores that operate under the FINA brand, of which 600 convenience
stores receive supplies from terminals or pipelines owned by Alon USA. Of these, 206
convenience stores are owned or leased by Alon USA.
The refineries in California sell their manufactured products primarily to wholesalers and
on the bulk market. Sale of gasoline and diesel from the refineries in California is
concentrated in southern California. The refineries in California are connected to other
pipelines or other terminals which issue fuel products in California, Phoenix (Arizona)
and Las Vegas (Nevada). The Paramount refinery has its own terminal which enables it
to sell fuel products at a volume of 12,000 barrels a day of diesel fuel, and 13,000 barrels
a day of gasoline.
As at the date of the Periodic Report, Alon USA sells asphalt through 12 terminals. The
asphalt production of the Big Spring refinery is sold from the refinery in tankers.
Alon USA, through a wholly owned subsidiary, manages a chain of 206 filling stations
and convenience stores under the 7-Eleven brand, of which 75 are owned and 131 are
leased. As at the date of the Periodic Report, Alon USA's operations in this segment are
concentrated in the west, central south and south west USA.
1.17.7.6
Competition in segments of operation of Alon USA
Competition in the refinery and sale of fuel products in the US is fierce. The major
competitors of Alon USA in this segment are international corporations such as Chevron,
ExxonMobil, Valero, Shell and Conoco Phillips and other companies that own refineries.
These giant corporations, which manufacture a variety of products and have integrated
operations (including the production and sale of crude oil, as well as refining and sale of
oil products) have large equity and financial ability and resources, and are able to
withstand the economic risks and marketing fluctuations related to operations in the US.
260
Alon USA purchases crude oil form third parties, while several of its competitors have
their own sources of crude. At the same time, the refinery in Big Spring Texas is located
in proximity to its main source of crude, which creates an advantage over its competitors
in the region. In addition, Alon USA leases pipelines for the transport of crude from the
Gulf of Mexico, which provides a supply of crude from foreign sources to the US.
Most of the distillates produced by Alon USA in the US are sold to wholesalers or a
chain of convenience stores in western Texas and New Mexico. The factors impacting
competition in sales to wholesalers are prices, product quality, reliability, availability,
and the location of issuing terminals.
In the asphalt segment, Alon USA competes with several major manufactures including
Sell, Valero, Tesoro, US Oil, Western, Ergon and Holly such as well as several regional
or state companies, and asphalt distribution companies that do not own a refinery. The
factors that impact competition in this segment include price, reliability, consistent
product quality, transport costs, and the ability to manufacture a variety of high-quality
products that meet customers' needs.
In the segment of distribution to convenience stores, the main competitors of Alon USA
are Valero, Conoco Phillips, Shell, Exxon, Sem Group and Western Refining. The main
factors that impact competition in this segment are store location, product prices and
quality, format and cleanliness of the convenience stores, and brand identity. Alon USA
expects state-based distributors of dry grocery products such as Alberston's and Wall
Market, as well as regional sellers that recently entered to fuel product distribution
segment, will join the competition in this segment. A large share of these competitors are
significantly larger than Alon USA due to their decentralized and integrated operations
and their greater resources, and have a greater capability to withstand market fluctuations
and low profitability stemming from price competition compared to Alon USA.
1.17.7.7
Clients
Alon USA's clients in the distillate distribution segment are other fuel companies, fuel
distributors, filling station operators and independent retailers. Customers of
convenience stores are private customers. Clients of asphalt produced at Big Spring
Texas are roofing companies and other asphalt mixing companies; asphalt is transported
by rail to all parts of the US. The asphalt produced on the West Coast is designated
primarily for road paving companies based on contracts or tenders. Asphalt for roofing is
sold to independent manufactures or industrial entities based on contracts.
1.17.7.8
Seasonality
Demand for gasoline products is generally higher in the summer months than in the
winter. As a result, sales of fuel products are lower in the first and fourth quarters of
261
every year. The majority (65%) of orders for asphalt for road paving are in AprilOctober of every year.
1.17.7.9
Production capacity
As at the date of the Periodic Report, Alon USA owns 3 refineries that produce various
distillates, and have a refining capacity of 158,000 barrels per day, and also has a 50%
interest in a asphalt refinery with a manufacturing capacity of 12,000 barrels per day.
The refinery at Big Spring Texas has a daily refining capacity of 70,000 barrels of crude.
This refinery refines 85% of the crude into gasoline, low-sulfur diesel, jet fuel and
various petrochemical products. The remaining 15% of its product are asphalt and LPG.
In 2004, 2005, and 2006, the utilization rate1 of this refinery was 95%, 94.3% and 90.8%
respectively. The decline in utilization rate in 2006 stems from a shut down related to the
installation of equipment, and adjustments designed to ensure compliance with EPA
regulations concerning the sulfur content of diesel, and a decline in product capacity due
to constraints affecting the refining tower between June and December 2006.
Since the acquisition of the refineries in California by Alon USA, the utilization rate at
Paramount was 83.8% and the utilization rate of the Long Beach refinery was 43.2%.
The total utilization rate of the refineries in California, in the period since their
acquisition by Alon USA, was 72.5%. In December 2006, the Paramount refinery
underwent planned renovations for a period of two weeks, which decreased production
during this period.
1.17.7.10
See Note 6D to Alon's financial statements.
1.17.7.11
Intangible assets
Alon USA has an interest in the following intangible assets:
An exclusive license to use the FINA brand, until 2012, in the manufacture and sale of
fuel products (including sale through distributors) in the following states: Texas,
Oklahoma, New Mexico, Arizona, Louisiana, Colorado and Utah.
Alon USA is a party to an agreement with 7-Eleven Inc, which conferred the right to use
the 7-Eleven trade name, trade mark and service mark in Western Texas and in the
majority of the districts of New Mexico, relating to the operation of Alon USA's
convenience stores.
Wright Asphalt Products Company, in which Paramount has a 50% interest, is the owner
of a patented license for a Ground Tire Rubber (GTR) asphalt manufacturing process in
1
The utilization rate of a refinery is the product of the daily average production of crude devided by the total
production capacity of the refinery, after deducting planned refinery shutdowns for maintenance or upgrades.
The maximum refining capacity of the refinery at Big Spring increased from 62,000 barrels per day to 68,000
barrels per day in the spring of 2005.
262
North America.
The asphalt manufactured in the Big Spring refinery is manufactured according to a
license obtained from FINA to use advanced asphalt manufacturing technology.
1.17.7.12
Human capital
As at December 31, 2006, Alon USA employed 1,641 employees (1,415 employees as at
December 31, 2005): approximately 250 employees in the fuel product refining and
marketing segment, of whom 170 in refineries, and 80 employees in the company's
headquarters in Dallas Texas. Of the refinery employees, 120 employees are under a
collective labor contract that expires in 2009. The management employees have no labor
union.
As at December 31, 2006, 1,391 employees worked in the convenience store segment
(1,165 as at December 31, 2005). These employees have no labor union. The labor
relations between Alon USA and its employees are satisfactory. No material changes
have occurred in the number of Alon USA employees in the years 2004 and 2005.
For details on employee option plans by Alon USA and its subsidiaries, see Note 4(a)
and Note 4(b) to Alon's financial statements.
1.17.7.13
The main raw material of Alon USA is various types of crude oil. The refinery at Big
Spring Texas is situated in the vicinity of the Midland Texas terminal, which is the
largest West Texas Sour (WTS) crude terminal; WTS is the main raw material of this
refinery, which creates a competitive edge (because historically, this type of crude is less
expensive than the crude oils known as West Texas Intermediate and West Texas Sweet
("WTI" and WT Sweet," respectively). Alon USA has short-term agreements with crude
oil suppliers, including with major oil suppliers. The Big Spring refinery is connected to
a 530-mile pipelines that transports crude oil, including oil imported from the Gulf of
Mexico. In June 2006, Alon USS entered into an agreement with the pipeline's owner,
pursuant to which Alon USA committed to transport 21,500 barrels of crude oil through
the pipeline a day from Midland Terminal, for 15 years. This agreement was designed to
diversify Alon USA's sources of crude oil.
The refineries in California purchase various types of crude. Most of the crude is
purchased pursuant to agreements with suppliers, including major oil companies. These
agreements are short-term or long-term and include negotiation mechanisms or
provisions for price adjustments to the market price. The remainder of crude for these
refineries in purchased on the spot market.
The refineries in California have a 31-mile long pipelines for the transport of crude oil,
which enables the refineries to purchase oil from various sources, including overseas.
263
1.17.7.14
A.
General
Alon USA's operations are subject to comprehensive federal, state, regional or local
legislation which changes frequently and which refers to environmental protection
including provisions regarding air and water pollution, treatment and evacuation of solid
or hazardous waste, and treatment of contamination. Alon USA believes that it is
generally and substantially in compliance with the said requirements and in the
forthcoming years it will be required to comply with new requirements enacted by the
Environmental Protection Agency ("EPA") and by the states and jurisdictions in which it
operates.
B.
Requirements regarding the refinery operations
The EPA enacted standards according to the Clean Air Act, which require a reduction in
the sulfur content of gasoline and diesel fuels used for passenger vehicles. These
standards require most refineries to reduce the sulfur content in gasoline by January
2004. the regulations allow small refining companies to meet the standard of 30 ppm
sulfur by January 2008 or December 2010; if the refinery reduces the sulfur content in
diesel to 15 ppm, by June 2006. Until the acquisition of Paramount and Edgington, Alon
USA was considered a small refining company and therefore in May 2006, it complete a
procedure in which it adjusted the Big Spring refinery to the sulfur content requirements
in gasoline and diesel as a small refining company at a total cost of USD 17.5 millions
(of which, USD 12.8 millions in 2006).
In November 2006, as a result of the acquisition of the refineries in California, Alon
USA informed the EPA that it ceased to be considered a small refining company.
Consequently, Alon USA was be required to comply with production requirements
pertaining to large refining companies in the US and therefore was compelled to invest
USD 15.4 millions, by May 2009, in the adjustment of all aspects of its low-sulfur
gasoline production in its refinery in Big Spring. Of this amount, USD 1 millions will be
invested in 2007.
The Paramount refinery will require an investment in its production facilities in the
amount of USD 4.9 millions, of which USD 1.5 millions in 2007 and USD 1.7 millions
in each of the years 2008 and 2009, based on an order concerning the reduction of air
pollution. Furthermore, this refinery will require an investment in the plant in the amount
of USD 3.7 millions by 2009, to reduce emissions.
In October 2006, the EPA contacted Alon USA to enter into discussions with the EPA
according to what is known as the EPA's Petroleum Refinery Initiative (below, "the EPA
Initiative"). The EPA Initiative is directed to handle what the EPA views as the most
264
important issues related to refinery operations pertaining to the Clean Air Act. In
February 2007, Alon USA signed its consent to enter into negotiations with the EPA,
based on the EPA Initiative. As at the date of the Periodic Report, the EPA made no
findings against Alon USA or its assets, and Alon USA has not decided whether to reach
a settlement with the EPA. Other refineries that reached an agreed settlement with the
EPA paid administrative fines or committed to perform certain repairs and improvements
in the refineries. As at the date of the Periodic Report, Alon USA is unable to estimate
the monetary outcome of EPA's actions described above.
In 2006, the Governor of California signed a new law – the California Global Warming
Solution Act - designed to reduce hothouse gas emissions to their 1990 levels. The
regulations under this act have not yet been passed, but Alon USA expects that these
regulations will increase regulation of hothouse gas emissions form its refineries in
California and its terminals in this state.
Alon USA estimates that future developments may require additional equity investments
in its refineries, terminals and depots, by the force of the Clean Air Act provisions, or
federal, state or local requirements. As at the date of the Periodic Report, Alon USA is
unable to assess the amounts involved in these future expenses.
C.
Identification and decontamination of soil contamination
Alon USA expects that it will be required to invest USD 3.5 millions in the identification
and decontamination of soil contamination at the Big Spring refinery and its terminals.
Part of this amount is covered by a letter of indemnification granted by FINA to Alon
USA (see below). Paramount, the subsidiary, is involved in four land decontamination
projects in the Los Angeles area. The expected cost of these projects in 2007 is USD 1.1
millions. Paramount will be compelled to spend an additional USD 1.2 millions to clean
up its terminals in Washington State after 2007.
In addition, the convenience stores owned or leased by Alon USA in Western Texas and
New Mexico store fuels in underground tanks. Compliance with federal and state
provisions pertaining to these tanks may require extensive expenses. Such actions carry
risks including the risk of land contamination and contamination of the underground
water table, and fines imposed as a result thereof.
D.
Indemnification and insurance pertaining to contamination
As part of the acquisition of FINA's operations in 2000, Alon USA received a letter of
indemnification from FINA in respect of expenses incurred by Alon USA to remedy
environmental damage caused by the acquired assets. Indemnification is limited to USD
5 millions per year, and a total of USD 20 millions. The indemnification undertaking is
in effect until 2010. As at December 31, 2006, FINA paid indemnification to Alon USA
265
in the amount of USD 13.4 millions, which Alon USA incurred to remedy hazards in the
acquired assets, and an amount of USD 3 millions in respect of the purchase of a policy
to cover environmental damage. Furthermore, FINA undertook to indemnify Alon USA
in respect of third party damages relating to environmental claims, for a period of 10
years from the date of the transaction closing (2000), less deductibles in the amount of
USD 25 thousands per event and a total amount of USD 2 millions. Furthermore, FINA
undertook to indemnify Alon USA in respect of any fines imposed thereupon in respect
of FINA's operations in the transferred assets up to the closing date. FINA's undertaking
to indemnify Alon USA in respect of third party damages and fines is not limited in
amount.
Alon USA purchased insurance policies to cover environmental damage in respect of its
operations that are not covered by the letter of indemnification from FINA. The policies
were paid in advance and in full. With regards to the acquisition of the refineries in
California, Alon USA purchased an insurance policy for environmental damage in
September 2006, the premium on said policy was paid in full. The insurance term is 7
years, and the policy covers damages up to a total amount of USD 15 millions per event
and for the term, and deductibles of USD 0.5 millions per event.
With regards to the sale of the fuel transport pipeline to HEP in 2005, Alon USA issued
a letter of indemnification to HEP in respect of expenses incurred to remedy or clean up
environmental damages that existed prior to the sale. The total amount of
indemnification is USD 20 millions, and HEP's participation in each event is USD 0.1
millions. The letter of indemnification is in effect until February 2015. With regards to
the sale of a pipeline to Sonoco, Alon USA issued a letter of indemnification to Sonoco
regarding contamination in the pipeline or violations of environmental laws prior to the
sale (March 2006), Alon USA has the right to perform the decontamination instead of
paying costs to Sonoco.
1.17.7.15
Restrictions on and regulation of Alon USA's operations
Alon USA's operations may be affected by legislation and regulations of governmental
authorities as described below (it is clarified that this is a partial list only and is not
exhaustive):
Provisions of the federal transportation department of the State of Texas regarding
maintenance of crude oil and oil product transport pipelines; Alon USA estimates the
expenses related to said provisions at USD 1.2 millions over the next five years.
Regulations of the State of California fire department regarding oil product pipelines;
Alon USA estimates the expenses related to said provisions at USD 2 millions over the
next five years.
266
Provisions of the Oil Pollution Act and regulations pertaining to water contamination as
a result of oil leaks.
The relationship between Alon USA, as a refinerer, and fuel distributors are regulated by
the Petroleum Marketing Practices Act, or "PMPA," which is federal legislation,
pursuant to which refinerers may authorize distributors to use their brands to distribute
gasoline. Alon USA sells fuels through distributors that operate under the FINA brand.
The law provides mechanisms for the termination and extension of distribution
agreements with distributors.
Alon USA is subject to federal and state laws regarding minimum wages, overtime,
employee safety and health, and citizenship laws.
1.17.7.16
Working capital
Alon USA finances its operations through its own sources (cash from operations) and
bank credit. In 2004, 2005 and 2006, Alon USA had an operating surplus in the amount
of USD 77 millions, USD 138 millions and USD 143 millions, respectively.
1.17.8
Retail and food in Israel – Blue Square
1.17.8.1.
General
Alon operates in the retail segment in Israel through Blue Square and its subsidiaries.1 In
addition, in this segment Alon operates a chain of fast food restaurants (Pizza Hut and
Kentucky Fried Chicken).
Blue Square is one of Israel's largest retail marketing chains and, as at December 31,
2006, contains 170 stores operating under three chains.
As at the date of the Periodic Report, Blue
Square holds 50% of the share capital of
Hamachsan Hamerkazi Kfar Hasha'ashuim Ltd (below, "Kfar Hasha'ashuim") which is
engaged in the import and sales of non-food products through franchises. Kfar
Hasha'ashuim opeates 200 stores under the Kfar Hasha'ashuim, Sheshet, All for a Dollar,
Fifo and Rav-Kat brands.
In February 2007, Kfar Hasha'ashuim signed an agreement to purchase 85% of the share
capital of Vardion Textile Ltd (below, "Vardinon"). Vardinon's shares are listed for trade
on the TASE and the company is engaged in the manufacture and sales of home textile
products.
In June 2006, Blue Square completed the transfer of directly owned real estate and the
transfer of certain liabilities to its wholly owned subsidiary, Blue Square Real Estate Ltd
(below, "Blue Square Real Estate"). The transfer was effected pursuant to sections 104 a
and 105 a(2) of the Income Tax Ordinance. In August 2006, Blue Square Real Estate
1
Blue Square which operates in this segment independently and through its subsidiaries, Blue Square Properties
and Investments Ltd (below, "Blue Square Properties") in which it has a 80% interest, as at the date of the
Periodic Report.
267
issued 25% of its share capital pursuant to the Periodic Report, together with ordinary
bonds and convertible bonds. As at the date of the Periodic Report, Blue Square holds
80% of the capital of Blue Square Real Estate.
Blue Square operates in the real estate segment independently and through its
subsidiaries Blue Square Properties and Blue Square Real Estate.
In addition, Blue Square holds 35.9% of the share capital of FM 103, a radio station.
1.17.8.2
Acquisition of interest in Blue Square by Alon
As at the date of the Periodic Report, Alon holds 73.65% of the issued share capital of
Blue Square, through a subsidiary, Bronfman Alon Ltd (wholly owned and controlled by
Alon; below, "Bronfman-Alon"). Bronfman-Alon was established in 2003 for the
purpose of acquiring Blue Square shares. Alon holds 50% of the share capital of
Bronfman-Alon, and the Bronfman Group, through a company owned by Mathew
Bronfman and Shalom Fisher (below, "the Bronfman Group") holds 50%. In 2003,
Bronfman-Alon was awarded a tender to purchase 78.1% of the share capital of Blue
Square for NIS 1,368,804 thousands. In September 2005, Alon purchased 23.5% of the
share capital of Bronfman-Alon from the Bronfman Group for a consideration of USD30
millions. In January 2007, Alon purchased the remainder of the share capital of
Bronfman-Alon from the Bronfman Group for a consideration of USD 52.6 millions. As
at the date of the Periodic Report, Alon, through a subsidiary, owns the entire share
capital of Bronfman-Alon.
For details on financing of the acquisition, see Notes 4b1 and 9a4 to the financial
statements of Alon.
1.17.8.3
Structure of the retail segment and changes therein
The retail sector in Israel has always been characterized by fierce competition. Operting
in this segment are two major shopping chains, Blue Square and Supersol Ltd (below,
"Supersol", and jointly, "the Major Chains"), several independent chains, private mini-markets and grocery stores. Blue Square estimates that retail sales of food, beverages and
tobacco in Israel in 2006 were NIS 44 billions, and the share of the Major Chains in
these sales for that period was 36%, while the share of all chains (excluding privatelyowned mini-markets) was 52%. The chains' share of sales is lower relative to European
countries and the US.
In 2005, Supersol acquired Clubmarket Chains Ltd (below, "Clubmarket") and increased
its market share.
In recent years, the competition in this segment, especially between the Major Chains, is
characterized by giant-format stores that offer consumer products at significant discounts
and low prices.
268
1.17.8.4
Major products and services in this segment
In its stores (below, "the Stores"), Blue Square sells a variety of products, food products,
non-food products and near-food products. In addition, bakeries and delicatessens
operate in most Stores, and offer off-the-shelf products including fresh meat and
prepared foods. In some Stores, products are sold under a franchise. Pharmacies that are
licensed to sell prescription drugs and that sell OTC drugs, cosmetics, perfumes and
hygiene products operate in 15 stores.
1.17.8.5
Marketing, advertising and distribution
As at the date of the Periodic Report, Blue Square operates 175 stores through three
chains, under the following brands: Mega, Super Center and Shefa Shuk.
The Mega chain – is a chain of 40 large discount stores, generally located outside
residential areas, and offering a large variety of food and other products.
The Super Center chain is a chain of 90 medium-sized neighborhood stores, located in
city centers and residential neighborhoods nationwide, and offer a limited variety of food
products and home products.
The Shefa Shuk chain is a chain of 40 small-sized stores catering to the religious/Haredi
population. These stores are located in Haredi population concentrations and mixed
cities where there is a demand for heavily discounted food. This chain offers a broad
variety of products.
In 2005, Blue Square performed a reo-organization process in which the store
management system was modified; today, the stores are managed through various chains
rather than on a geographical basis, the method used in the past.
In view of the strong competition in this sector, Blue Square offers various discounts to
its customers. Blue Square also sells its products on the internet, through its website
www.bluesquare.co.il, which enables online shopping 24 hours a day, as well as through
a customer service center that is operated by customer service representatives, which
enables orders of products by fax or telephone.
In 2006, Blue Square, jointly with Dor-Alon (a company controlled by Alon, the
controlling owner of Blue Square), established a joint loyalty program. Under the loyalty
program, Blue Square offered its customers a new credit card [issued] by Diners Club
Israel Ltd, under the YOU brand. The purpose of the program was to expand the
customer base and fortify customer loyalty of existing customers to Dor-Alon and Blue
Square. The loyalty program awards exclusive benefits to its members, including
rebates, discounts and benefits from various merchants.
1.17.8.6
Competition in the retail marketing and fast food sector
The retail marketing segment is Israel is highly competitive and is characterized by large
269
turnovers and small margins. Blue Square competes with Supersol (which currently
includes most former Clubmarket stores, which it purchased in 2005), independent
chains, private mini-markets, open-air markets, and retailers operating in a format
similar to chain stores.
According to ACNielsen data,1 Supersol's share in the FMCG market in 2006 was 37.7%
(39.5% in 2005), while Blue Square's share in this market was 25.1% (24.8% in 2005).
Blue Square estimates that the competition in the retail marketing sector has become
more intense as the market becomes more saturated, and will continue to intensify as
new players enter the sector and operate discount marketing chains.
In 2006, Supersol consolidated and re-branded its marketing chains under a single
umbrella brand. These actions, together with the expansion of independent chains and
private mini-markets, exacerbated the competition in the retail marketing sector,
especially between Blue Square and Supersol.
As a marketer of non-food and near-food categories as well as cosmetics, Blue Square
also competes with similar marketing chains including SuperPharm, New Pharm, Office
Depot, Home Center and others.
In the fast-food sector, competition is from other fast-food chains including Domino's
Pizza and others.
1.17.8.7
Seasonality
Blue Square's results are subject to fluctuations in sales and profitability. These
fluctuations are first and foremost attributed to growth in sales in the major holiday
periods in the yearly calendar: Rosh Hashanah, Sukkot, Pessach and Shavuot. The timing
of these holidays in the Gregorian calendar affects the fluctuations in profitability in the
various quarters. Nonetheless, the timing of the holidays does not affect Blue Square's
semi-annual results.
1.17.8.8
Several stores are owned by Blue Square while others are owned by Blue Square
Properties and its subsidiary. Blue Square is generally the owner of stores smaller than
1,500 sq.m. while Blue Square Properties is the owner of large stores exceeding 1,500
sq.m. For details on the fixed assets of Blue Square, see Note 6 to the financial
statements of Alon.
1.17.8.9
Suppliers and distribution
Blue Square purchase products from over 1,100 suppliers including manufacturers,
importers and distributors. Suppliers supply 81.6% of its grocery products and 90.6% of
its meat and fish products directly to its supermarkets. Other products, of which 79% are
1
According to ACNielsen data on chain stores – FMCG.
270
fruits and vegetables, are distributed by the logistic distribution center owned by Blue
Square which distributes products too Blue Square supermarkets (below, "Logistics
Center").
Blue Square takes steps to diversify its suppliers.
Following are details on the breakdown of Blue Square's purchases from its major
suppliers, for each of the years 2004 and 2005:
Company
2004
2005
Tnuva
12.1%
12.4%
Strauss-Elite
9.8%
9.8%
Osem
7.6%
7.1%
No material change occurred in the share of purchases from these suppliers in 2006. Blue
Square estimates that there is no real risk that Tnuva. Strauss-Elite or Osem will stop
supplying goods to its chain stores, even though Blue Square does not have supply
agreements with these suppliers.
In recent years, several of the major suppliers completed a series of mergers and
acquisitions, as a result of which Blue Square's major suppliers supply 50% of all
supplied products. Blue Square has not encountered material problems in purchasing
products from suppliers.
1.17.8.10
Human capital
Following is a breakdown of Blue Square employees in the years 2004 and 2005:
2005
2004
690
660
Store employees
5,460
5,930
Total employees
6,330
6,590
Management,
administrative employees
and employees of the
Logistic Center
The work conditions of most Blue Square employees are defined in a collective
employment agreement signed in 1996 by Co-op Blue Square, the General Labor Union,
the Co-op Association, and the Co-op National Labor Committee. In this agreement, the
rights and obligations of Cop-op in respect of its employees were assigned to Blue
Square. In additional agreement between the Labor Union and Co-op, the salary
structure, work conditions, and raises for existing employees were defined.
271
Blue Square is a party to several collective arrangements that regulate its relations with
its employees. Blue Square reached settlements in the following matrters, among other
things: distribution of bonuses to all its employees in the total amount of NIS 40
millions; benefits to its permanent employees in the amount of up to USD 2.5 millions;
option to its permanent employees to purchase up to 10% of any future offer of its
securities that is offered to the public including loans at convenient terms to enable them
to purchase the said securities; extra pay in respect of work at night, on Saturday
evenings and holidays; and contributions by Blue Square and its employees to savings
plans.
Furthermore, under a general collective agreement, Blue Square is committed to comply
with the State's conventional labor laws and the regulations issued under them by the
Minister of Labor. These regulate, among other things, work hours and hours of rest,
provisions to pensions plans, work accident insurance, dismissals, and severance pay for
employees.
1.17.8.11
Working capital
Blue Square's main item of fixed assets stems from revenues in cash from its ordinary
operations. Blue Square's cash flow covers it needs and its operating costs. Blue Square
Investments and Properties' cash reserves that were used and are expected to be used as a
source of financing to expand the operations of Blue Square Investments and Properties.
Blue Square's had a positive balance of working capital from its operations in 2004,
2005 and 2006.
1.17.8.12
Investments
In December 2006, Blue Square jointly with Dor-Alon, purchased 49% of the shares of
Diners Club Israel Ltd (below, "Diners") from Cal Israel Credit Cards (36.75% to Blue
Square and 12.25% to Dor-Alon), for a consideration of NIS 21.3 millions which was
received as a loan from Diners (of which, Blue Square's share is NIS 16 millions). Blue
Square investments in FM103 radio are not material, as at December 31, 2006
1.17.8.13
Restrictions on and Regulation of Blue Square operations
Business Licensing Law, 1968 (below, "Business Licensing Law") – the operation of
chain stores requires a business license. A business license is conditional upon approvals
form numerous authorities, including the Ministry of the Protection of the Environment
and the Ministry of Health. Operating a business without a business license is an offense.
In the absence of a business license, the courts may order the closure of a store in respect
of which no business license was obtained.
Business License Regulations (Proper sanitary conditions for supermarkets)-2006
(below, "Supermarket Sanitary Regulations") – In 2006, the Minister of health proposed
272
the Supermarket Sanitary regulations under an amendment to the Business Licensing
Law. As at the date of the Periodic Report, the Supermarket Sanitary Regulations have
not come into effect. In practice, staff of the Ministry of Health have begun demanding
the implementation of the proposed regulations in chain stores. The purpose of the
regulations is, among other things, to regulate additional requirements for a business
license based on the Business Licensing Law, including conditions regarding the
building maintenance and sanitary standards.
The Supervision of Goods and Services Law - 1996 (below, "Supervision Law") – under
the Supervision Law, the government may impose governmental regulation of the
maximum prices of consumer products.
The Beverage Container Deposit Law-1999 (below, "the Deposit Law") – The Deposit
Law requires chain stores, including Blue Square, to collect a deposit for beverage
containers of a volume between 0.1-1.5 liters. The Deposit Law also requires chain
stores to accept and return the deposit in respect of empty beverage containers.
In 2000, the Beverage Container Deposit Bill (Amendment No. 2) (Establishment of
Recycling Corporation)-2000 (below, "Deposit Bill") was brought before the Knesset.
This bill has not yet been approved and if approved, expands the application of the
Deposit Law to beverage containers of a volume exceeding 1.5 liters. The Deposit Bill
will impose additional restrictions including an obligation on businesses that sell
beverage containers to accept empty containers and return the deposits in respect thereof.
The Deposit Bill will limit the quantity of returned containers to 50 containers per person
a day, will increase the liabilities imposed on beverage manufacturers and importers, will
limit the provisions pertaining to corporations recognized as a recycling corporation, and
will obligate chain store employees to invest efforts to prevent violations of the Deposit
Law.
Involvement
of
the
Restrictive
Trade
Practices
Commission
(below,
"the
Commissioner") – In general, it can be stated that the Commissioner exhibits extensive
intervention in recent years in various arrangements conventionally practiced in the retail
sector. By force of his authority under the Restrictive Trade Practices Law-1988, such as
his authority to approve mergers or declare industry-wide arrangements, the
Commissioner may prevent Blue Square from realizing its strategic plan to increase its
market share in the sector. For details on the Commissioner's actions and resolutions
pertaining to certain arrangements between food chains and food suppliers, see Note
11(3) to Alon's financial statements.
Consumer Protection Law-1981 (below, "Consumer Protection Law") – Blue Square is
subject to the provisions of the Consumer Protection Law and the regulations enacted
273
thereunder, which carry criminal liability. Among other things, Blue Square is obligated
to affix labels that contain information on product price and weight on the consumer
goods that it sells.
1.17.9
Segment of fuel product marketing in Israel – Dor-Alon
1.17.9.1
General
In this segment, Alon operates through Dor-Alon Energy Israel (1988) Ltd and its
subsidiaries (below, jointly, "Dor-Alon"). In 2004, as part of the re-organization of the
Alon Group, Alon's operations in the fuel product marketing sector in Israel was
concentrated in Dor-Alon, and operations in the food and retail sector were removed
therefrom (below, "Re-organization").1
In January 2007, Dor-Alon acquired A.M.P.M. Ltd which is a convenience store chain,
from its owners, for a consideration of NIS 143 millions.
Regarding the agreement between Dor-Alon and Blue Square to purchase shares of
Diners Club Israel Ltd, see paragraph 1.17.8.12 above.
1.17.9.2
Dor-Alon's segments of operations
Dor-Alon operates in three sectors:
A.
Filling stations and convenience stores segment – The operations in this segment
include the sale of fuel products and other products through filling stations and
convenience stores (below, "filling stations and convenience stores") and internal fueling
stations.
B.
Direct marketing segment – The operations in this segment include the sale of fuel
products to institutional, industrial and private customers.
C.
Jet fuel segment – The operations in this segment include the sale of jet fuel to civil
airlines. Operations in this segment are not significant for Alon.
1.17.9.3
General information on the segment of fuel product sales in Israel
As at the date of the Periodic Report, four major fuel companies operate in the sector of
fuel sales in Israel (Paz, Delek, Sonol and Dor-Alon) as well as several small fuel
companies. In 2004, a decision was made to privatize Oil Refineries Ltd. (below,
"ORL"), from which the fuel companies in Israel purchased the majority of their
consumption of oil distillates, by splitting ORL into two companies ("Oil Refineries
Ashdod" or "ORA" and "Oil Refineries Haifa" or "ORH", respectively). In October
2006, control of ORA was transferred to Paz Oil Company Ltd (below, "Paz") and in
February 2007, control of ORH was transferred to a group of investors including the
1
Several assets transferred under the Re-organization were transferred pursuant to advance approvals of the Tax
Authority (pre-ruling), under section 104 of the Income Tax Ordinance. According to the advance approvals,
certain restrictions were imposed on Alon and on Dor-Alon pertaining to the holding period of the transferred
assets and limitations on liability.
274
Israel Corporation Ltd and the Scailex Group (below, "the Israel Corp. Group").
Following the privatization of ORL, the fuel products sale sector in Israel underwent
material changes, including the following major changes: removal of regulation on
maximum ORL-gate price1 of the majority of distillates, permission to refineries to enter
the direct marketing segment including sale of fuels in filling station and convenience
stores complexes under certain restrictions.2
The critical success factors in this segment are, among other things, the geographic
distribution of the filling station chain, the commercial terms of agreement, financial
strength, ability to offer competitive prices, branding ability, procurement management
skills, effective marketing function and logistical support function. Increased
competition in this sector requires that Dor-Alon continually improve its abilities in
these areas.
The main entry barriers to this sector, especially pertaining to significant geographic
distribution, are extensive investments and the extended timescale involved in the
establishment of new filling stations.
1.17.9.4
Main products and services
The main products supplied by Dor-Alon are oil distillates, food and non-food products.
In filling station and convenience store sites, Dor-Alon's sales of fuels and lubricants in
2004, 2005 and 2006 constituted 34%, 29% and 33% of its total sales, respectively.
In the direct sales sector, All Dor-Alon sales constituted a single product group of oil
distillates.
1.17.9.5
Customers
Customers in the filling stations and convenience store complex sector are divided into
casual customers and customers who own fleets.
Most customers in the direct marketing sector are commercial and industrial customers.
Customers in this sector include the Palestinian Authority (below, "the PA"), to which
Dor-Alon is the exclusive supplier of oil until the end of 2006. In 2004, 2005 and 2006,
Dor-Alon's sales (net, excluding levies and taxes on oil distillates) to the PA constituted
34%, 39% and 35% of Dor-Alon's total sales, respectively. Dor-Alon is dependent on the
PA as a major customer, such any discontinuance of sales to the PA may have a material
affect on its business results.
As from January 1, 2007, Dor-Alon is the exclusive supplier of oil distillates to the Gaza
Strip. Accordingly, sales to the PA are expected to drop from 35% in 2006 to 15% in
2007. This information is forward-looking information and is dependent on PA
1
See order of supervision on prices of products and services (maximum ORL-gate prices of oil products)
(Amendment No. 2)-2006.
2
For resolutions of the Restrictive Trade Practices Commissioner, see www.antitrust.gov.il.
275
consumption
and on Dor-Alon's revenues in general. This information may not
materialize if consumption is greater or less than expectations,
or if changes occur in
Dor-Alon's total revenues. The decline in the scope of operations with the PA may
reduce Dor-Alon's earnings in the direct marketing sector. According to Dor-Alon's
estimates, it is able to direct the credit and financial sources that become disposable, if
any, to the expansion of existing or other activities that will generate future earnings in
lieu of the earnings that were affected. This information is forward-looking information
and may no be realized if, among other things, alternative investments opportunities are
not identified and/or exploited, and/or said alternative investments fail to generation the
expected earnings.
The private customers in Dor-Alon's direct marketing segment are primarily households
and small businesses that consume LPG.
1.17.9.6
In the filling station and convenience store complex segment, products are sold through
the filling station and convenience store sites. The Dor-Alon chain comprises 167
complexes and 194 internal fuel stations,1 as at December 31, 2006. In the direct
marketing segment, products are sold by Dor-Alon's sales representatives and by
independent distributors.
1.17.9.7
Terms of competition in the fuel product marketing sector in Israel
A.
Filling stations and convenience store sites – competition in this segment is fierce.
Dor-Alon's main competitors in this sector are the following fuel companies: Paz, Delek
and Sonol which have 257, 235 and 215 public filling stations, respectively. Dor-Alon is
the fourth largest fuel company in this sector. In this sector, competition is reflected
primarily in marketing to end customers and in competition over the acquisition of rights
to establish new filling stations and convenience store sites.
In the course of the ORL privatization process,2 and in the approval process of the
merger of ORA and Paz,3 restrictions were imposed on Paz and ORA pertaining to the
terms of competition in the sector, primarily restrictions on the number of additional
filling stations that Paz is entitled to acquire and the location thereof.
The ORH privatization process4 and the acquisition of ORH by the Israel Corp. Group
1
"Internal fueling stations" are stations located primarily in agricultural settlements (moshavim) and kibbutzim,
designated for use by a defined circle of customers, and several diesel fuel filling centers that are not part of
public filling stations.
2
See order of government companies (Declaration of Essential State Interests in Oil Refineries Ashdod Ltd)2006.
3
For the resolutions of the Restrictive Trade Practices Commissioner on the approval of the merger, see
www.antitrust.gov.il.
4
See order of government companies (Declaration of Essential State Interests in the Oil Refinery Company
Ltd)-2007.
276
allow ORH to enter into the sale of fuels through filling station and convenience store
sites. In this procedure, restrictions were imposed on the Israel Corp. and on ORH,
primarily that, by 2011, ORH or and Israel Corp. will not be allowed to own more than
20% of all filling stations in Israel.
B.
Direct marketing sector – Competition in this sector is also fierce. The competing
entities in this sector are mainly the aforementioned fuel companies, as well as the
following gas companies: Pasgas, Amisragas and Supergas. Due to a lack of data on the
scope of sales of the competitors in the direct sales sector, the management of Dor-Alon
is unable to assess its share of this sector. In contrast to the former situation, the
privatization of ORL allows the refineries to operate in the direct marketing sector,
subject to the condition that the direct marketing operations of ORH will be permitted
only six months after the date of the acquisition of ORA by Paz, creating competition in
the refining sector.
1.17.9.8
Intangible assets
Dor-Alon owns trade marks in this sector including "Dor Energy," "Dor-Alon" and "Dor
Gas." Dor-Alon has the right to use the following trade names: "Alon," "Alonit," "Super
Alonit," and "AM:PM." Dor-Alon is the exclusive representative in Israel of Aral
Lubricants GmbH, a German manufacturer of lubricants. Dor-Alon has the right to use
the Texaco name in its activities to market lubricants in Israel.
1.17.9.9
Human capital
Following is the breakdown of Dor-Alon1 employees, by segment:
2004
HQ employees
Filling stations and
convenience store sites
Direct
marketing
employees
Total
2005
2006
70
81
81
912
1,033
1,007
80
89
86
1,062
1,203
1,174
In 2005, the board of directors of Dor-Alon approved an employee option plan (below,
"the Plan"), to award options to Dor-Alon employees and employees of a partnership
that is an interested party in Alon which renders services to Dor-Alon. Under the plan,
336,275 non-negotiable options were allocated. Maximum exercise of the options will
lead to a dilution of Alon's interest in Dor-Alon from 90% to 88.13%.
1.17.9.10
Oil products, the main product in Dor-Alon's segments of operation, are mainly
1
This number includes only the employees employed by Dor-Alon and companies in which Dor-Alon owns
more than a 50% share (labor relations in Dor-Alon are satisfactory).
277
purchased from ORL, which until the final quarter of 2006, owned two refineries, in
Ashdod and in Haifa. In 2004, 2005 and 2006, Dor-Alon's purchases from ORL
constituted 90%, 91% and 88% of its total consolidated cost of sales, respectively. DorAlon, similarly to the remaining fuel companies in Israel, are dependent on the refineries
in all aspects pertaining to the supply of oil distillates, such that if the refineries fail to
supply fuels or supply fuels are non-competitive prices, independent importation of fuels
will be required. Dor-Alon has the capability to perform independent importation of fuel
products at competitive prices.
Following the privatization of ORL, regulation of maximum refinery-gate prices of oil
products was removed, regarding the majority of fuel products (excluding LPG, highsulfur fuel oil, bitumen, and low-sulfur transportation diesel oil). The supply of LPG is
governed by provisions defined as part of the ORL privatization process and regulations
regarding arrangements in the state economy regarding an equal division of LPG during
shortages.
Dor-Alon is dependent on the refineries in Israel with all regards to the supply of LPG,
such that if the refineries discontinue the supply of LPG, or in the event of a shortage in
LPG, the Company will be forced to import LPG, which may involve additional
expenses.
Several food and non-food products that are sold in Dor-Alon convenience stores are
purchased from Blue Square (which is controlled by Alon), pursuant to a purchase
agreement with Blue Square dated 2004 (below, "the Purchase Agreement"). The
Restrictive Trade Practices Commissioner has the right to terminate the Purchase
Agreement, at his discretion.
1.17.9.11 Working capital
The main items of Dor-Alon's current assets include: customers' debts, inventory,
and short-term deposits. Current liabilities include, mainly, a debt to suppliers. In
2004, 2005 and 2006, Dor-Alon has a positive working capital.
1.17.9.12 Environmental issues
Engagement in fuel products in Israel is subject to extensive regulation and
supervision designed to prevent damage to the environment, mainly water and air
pollution and soil contamination, and to protect public safety. Fuel products are
defined as hazardous materials, under certain circumstances, that may cause
contamination. In recent years, enforcement of environmental legislation has
increased. Dor-Alon invested NIS 1,500 thousands in 2006 and is expected to
invest NIS 1,500 thousands in 2007 to comply in its segments of operation with
278
the provisions of legislation and authorities pertaining to the environment.
An indictment was filed against Alon and several officers in Alon regarding
offenses committed under the Water Law-1959 and the regulations enacted
thereunder, in internal fueling stations. The maximum fine in respect of these
offenses is of an amount that is not material for Alon.
1.17.9.13
Restrictions and regulation of Dor-Alon's operations
The provisions noted below do not constitute an exhaustive list of the provisions of law
and regulations applicable to Dor-Alon, but only the major provisions: Alon-Dor's
operations require approvals to operate as a fuel company; customs and excise tax
approvals; supervision of fuel price restrictions on agreements with filling stations;
restrictions applicable to the planning and establishment of filling station and
convenience store sites; restrictions on the operations of fuel companies by force of the
Restrictive Trade Practices Law-1988; business licensing regulations; Business
Licensing Regulations (Storage of Oil)-1976; Business Licensing Regulations (Sanitary
Conditions in Fueling Stations)-1970; Fuel Economy Law (Prohibition of sale of fuel to
specific filling stations)-2004; unique restrictions pertaining to the establishment of
internal fueling stations; operation of filling station and convenience store sites on the
Sabbath; Vehicle Operation Law (Engines and Fuel)-1961; standards; regulations of
arrangements in the state economy (legislative amendments)(Sale of gas by gas
manufacturers)-2006; and legislation and standards pertaining to LPG.
1.17.9.14
Investments
Dorgas is the owner of shares that constitute 18.54% of the share capital of Elran (D.D)
Infrastructure Ltd (below, "Elran Infrastructure"). Elran Infrastructure is engaged in the
development and construction of infrastructure projects, focusing on desalination.
Dorgas' loss on its investment in Elran as at December 31, 2006 was NIS 2,481
thousands. In addition, Dorgas granted loans to an affiliate of Elran in the amount of NIS
18,067 thousands, and guarantees in the amount of NIS 5.3 millions.
Dor Gas Explorations – Limited Partnership is a partner, jointly with others, in gas and
oil exploration rights in the Mediterranean. Dor-Alon's investments were, as at
December 31, 2006, NIS 15,450 thousands.
1.17.10
General restrictions, legislation and standards affecting Alon's operations
The following description refers to unique restrictions affecting Alon as aa holding
company:
1.17.10.1
Corporate and securities laws - Alon is subject to the provisions of the Companies Law1999 and the regulations enacted thereunder. When Alon becomes a public company, the
Company will also be subject to the Securities Law-1968 and the regulations enacted
279
thereunder (regarding the anticipated issue of Alon, see paragraph 1.17.2 above).
1.17.10.2
Income tax approval – pursuant to an income tax approval pertaining to the Reorganization of Alon's operations, and pursuant to the provisions of the Income tax
Ordinance, under which the approvals were issued, several restrictions apply to Alon, as
set forth in paragraph 1.17.9.1 above.
1.17.10.3
Restrictive Trade Practices – Alon and its investees are subject to restrictions under the
Restrictive Trade Practices laws that apply in countries in which they operate. The said
restrictions may limit the ability of Alon and/or the companies to exploit business
opportunities for new investments or to expand or sell existing investments.
1.17.11
Human capital of Alon
Employees are employed in the Alon group of companies, as set forth in paragraphs
1.17.7.12, 1.17.8.10 and 1.17.9.9 above. Furthermore, the Alon Group has headquarters
in Israel where a small number of employees are employed.
1.17.12
Financing – Alon
1.17.12.1
General
Alon finances its operations from its own equity, cash flows, dividends and management
fees from investees, funds raised in private bond issues as set forth below, and credit
facilities granted by banks.1 The balance of Alon's loans as at December 31, 2006 is, in
NIS thousands:
Banking
corporations
and others
1.17.12.2
Balance
as
at
December
31, 2006
3,530,225
Loans linked to
foreign currency
Loans linked to the
CPI
Unlinked loans
Balance
Interest
Balance
Interest
Balance
Average
interest
2,059,840
7.47%
1,160,553
5.6%
309,832
6.4%
Private bond issue
In January 2007, Alon issued bonds (Series A) to institutional investors in the amount of
NIS 1.5 billions, of a total amount of the Series of up to NIS 2.5 billions. Bonds (Series
A) are linked to the CPI and bear 5.35% interest. The bonds mature between 2016 and
2023, and interest is paid every six months. Alon intends to take steps to list bonds
(Series A) for trade on the TASE. If the bonds are listed for trade, the interest on the
bonds will be reduced, from the date of listing for trade and onwards, by 0.45% and will
be 4.9%. The bonds are not secured by any collateral. The bonds have been rated by
1
Including loans obtained through Alon Dor Hadash B’energia Limited Partnership.
280
Maalot as AA/Stable. In addition, Alon issued to IBA Underwriting and Issuances Ltd
11,380,087 non-negotiable options (Series 1) convertible into bonds (Series A).
1.17.12.3
Average interest rate
Following are details of the average interest rates in 2006 on Alon's loans that are not
designated for unique uses, divided into short-term and long-term credit, from banking
and ex-banking sources:
Banking
corporations
1.17.12.4
Short-term
Long-term loans
loans
(including
current
maturities)
6.1%
5.6%
Restrictions on Alon in obtaining credit
As at the date of the Periodic Report, no specific restrictions apply to Alon in obtaining
credit. In the matter of restrictions applying to the Company's Group and the Alon Group
in obtaining additional credit pursuant to Bank og Israel procedures regarding
restrictions on borrower groups, see paragraph 1.23.3.1 below.
For restrictions applicable to Alon's investees, see Note 11(4) to Alon's financial
statements.
For additional details on Alon's financing, see Notes 8, 9a(1) and 16d to Alon's financial
statements.
For details on the financial covenants applicable to Alon's investees, see Note 9 to Alon's
financial statements.
1.17.13
Investments
Holdings in the shares of the Cross-Israel Highway Operator
Alon owns 40% of the issued share capital of Israel Canada Highway Management Ltd
(below, "Israel Canada"). To the Company's best knowledge, Israel Canada owns, as at
the date of the Periodic Report, 51% of the share capital of the Cross-Israel Highway
operating company, Derech Eretz Highways Management Corporation Ltd (below, "the
Operator"), in which the Company owns 24.5% of the equity and voting rights. For
details on the Operator, see paragraph 1.19.3.8 below. Alon's investments in Israel
Canada as at December 31, 2006 are not material.
1.17.14
Taxation
For details on the Company's taxation, see Note 14 to Alon's financial statements.
1.17.15
Final Assessments
For details on final assessments issued to the Alon Group companies, see Note 14f to
281
Alon's financial statements.
1.17.16
Legal proceedings
For details on legal proceedings against the Alon Group companies, see Note 14(5) to
Alon's financial statements.
1.17.17
Risk factors
Following are details of the main unique risk factors affecting the operations of Alon and
its subsidiaries:
1.17.17.1
Refining and marketing oil products in the US: (a) fluctuations in the prices of crude,
raw materials, distillates and services as well as the erosion in margins between various
types of crude; (b) Dependency on pipelines to transport crude and distillates; (c)
changes in the provisions of environmental laws and regulations; (d) emission of
hazardous substances or other environmental contamination, especially in the region of
the Paramount refinery which is located in a residential area; (e) the insurance policies
of Alon USA do not fully cover the risks entailed in its operations. The solvency rating
of one of Alon USA's insurers in the environment field decline in recent years; (f)
natural disasters in regions where Alon USA's installations are located, some of which
are located in regions with a history of earthquakes; (g) Loss of the license to use the 7Eleven brand under which the convenience stores operate.
1.17.17.2
Retail operations in Israel: (a) competition in the retail sector; (b) fluctuations in Blue
Square's quarterly results of operations; (c) Dependency on suppliers; (d) business
licenses; (e) Increase in the minimum wage for Blue Square employees; (f) intervention
by the Restrictive Trade Practices Commissioner; (g) the Deposit Bill; (h) Forgeries and
theft of gift vouchers issued by Blue Square; (i) Dependency on information systems; (j)
Government price regulation.
1.17.17.3
Sale of fuel products in Israel: (a) changes in the prices of fuel products; (b) increase in
the excise tax rate: (c) fierce competition in the segments of operations; (d) split and
privatization of ORL. Discontinuance of regulation of refinery gate prices of 95 and 96
octane gasoline; (e) Increased strictness of environmental requirements; (f) deregulation
of the natural gas economy; (g) changes in requirements regarding civilian inventories;
(h) Dependency on a major customer; (i) Customer credit risks; (j) Rights in filling
stations; (k) Cancellation of Purchase Agreement; (l) Work on the Sabbath; (m)
Intervention by the Restrictive Trade Practices Commissioner.
1.18
Packer Steel Ltd.
1.18.1
General
1.18.1.1
Packer Steel Ltd. ("Packer") was incorporated in Israel in April 1958, as a private
company limited by stock. In October 1964 Packer became a public company, in
282
accordance with the Companies Ordinance. Commencing September 1981, Packer's
shares are listed on the Tel Aviv Stock Exchange.
1.18.1.2
As of December 31, 2006, the Company owned about 41.95% of Packer's issued capital
and its voting rights. For details of the purchase of control in Packer by the Company, see
Section 1.18.1.5 below.
1.18.1.3
Mergers, structural changes, and significant transactions in assets
A.
In August 2003, a merger agreement was finalized between most of Packer's steel
operations and YDPZ Steel Services Ltd. ("YDPZ"), in frame of which YDPZ allotted to
Packer shares, and in consideration all of Packer's shares and rights in the following
companies were transferred to YDPZ: Packer Steel South Industries Ltd., Packer Steel and
Metals Ltd., Packer Dike Steels Ltd., P.L.H Light Engineering Ltd., and Earlsfield Ltd.,
that is registered in Ireland, and in addition the operations of the companies in Moscow
were transferred, through the exchange of shares, so that YDPZ became a subsidiary
owned and controlled by Packer, and its name was changed to Packer YDPZ Ltd.
(“Packer YDPZ”). Packer YDPZ's financial statements were consolidated commencing
on the third quarter of 2003.
B.
Reorganization of the operating structure of Packer and the companies controlled by it
("the Packer Group") continued during the last quarter of 2003 and during 2004. The
main purpose of the said structural change was to consolidate the operations of YDPZ's
and Packer's subsidiaries under the merged company Packer YDPZ, and to consolidate
overlapping subsidiary operations.
C.
In order to increase the efficiency of the Packer Group's operations, due to the intense
competition and low level of demand, a decision was made to transfer some of the Packer
Group's operations to other Packer Group sites, and to reduce the number of employees in
the Packer Group. In 2004 and 2005, approximately USD 5 million was invested in the
said organization and transfer process. The retirement terms of the employees dismissed
in frame of the said process were regulated in a special collective agreement.
D.
In 2005, Packer closed its galvanizing facility in Arad, and during 2006, due to increased
zinc prices, Packer shut down one galvanizing pool in Kiryat Malachi.
E.
In 2005, Packer acquired 28.88% of the issued share capital of Arkal Plastic Products Ltd.
(“Arkal”) for a consideration of NIS 20 million, and regulated the relationship in respect
to Arkal's management and holding of the shares in Arkal. Arkal operates in the plastic
products segment in several principal capacities, among them plastic injection in the
gardening segment, the disposable cutlery segment and the automotive industry. The
purchase agreement involving Arkal's shares set, that the parties to the agreement will
strive to a future issue of Arkal's share capital. As of December 31, 2006, Packer has
written-off the remaining goodwill deriving from its investment in Arkal.
283
F.
In May 2006, a wholly-owned subsidiary of Packer sold its entire holdings in Ofer Packer
Investments Ltd. (that owned a real estate property with an area of 42 dunam in Kfar
Saba) for a consideration, after deducting a debt balance, of approximately NIS 30
million. The net profit from the sale amounted to approximately NIS 12.1 million.
1.18.1.4 The holdings structure in the Packer Group, as of December 31, 2006 is presented below:
Packer Steel
Ltd.
70.2%
65.7%
Negev
Ceramics Ltd.
Packer YDPZ
Ltd.
Packer YDPZ
Steel Services
Ltd.
Shlomo
100% Rapport and
Co. Ltd.
100%
100% Packer YDPZ
Negev
Ceramics
Marketing
(1982) Ltd.
Maklef 51
Ltd.
Metals Ltd.
Packer YDPZ
Profiles Ltd.
100%
50%
100%
100%
25%
100%
Negev
25%
Ceramics
Marketing
Nazareth Ltd.
Packer YDPZ
Profiles
Marketing Ltd.
100%
Packer Plada
Trading
(1981) Ltd.
100%
Earlsfield
Special
Steels B.V
100%
Earlsfield
Steels
Limited
N. Packer
Ltd.
Packer YDPZ
100% Galvanizing
Enterprises
Ltd.
Packer YDPZ
Dike Steels
Ltd.
Packer Plada
Investments
(1963) Ltd.
100%
100% Packer Plada
Financing and
Issues (1982)
Ltd.
Arkal
Plastic
Products Ltd.
100%
28.9%
Packer YDPZ
75% Quality Steels
Ltd.
Yamco YDPZ
Industries Ltd. 100%
Packer YDPZ
Investments
100%
Ltd.
50% SID-PAC Steel
& Construction
Products S.R.L
25%
50%
Contac
Electronic
Equipment
Ltd.
25%
P.L.H Lighting
Engineering
Ltd.
SID-PAC
Bulgaria S.A.
284
1.18.1.5
Significant transactions in Packer's shares
During January and February, 2007, the Company completed a transaction based on an
agreement dated September 2006, with Messrs. Yossi Packer , Nelly Packer, Uri Packer
and Talya Packer (with them and with companies controlled by them) ("the Sellers
Group"), in frame of which the Company acquired from the Sellers Group their entire
holdings in Packer (218,775 ordinary shares in Packer , that represent approximately
23.53% of the issued capital and approximately 23.53% of the voting rights in Packer). As
of the date of the Periodic Report, the Company holds 608,858 ordinary shares in Packer ,
that represent approximately 65.48% of the issued capital and approximately 65.48% of
the voting rights in Packer .
The consideration for the said sale of holdings amounted to NIS 279.6 per share, and
approximately NIS 61.169 million in total.
Following the aforesaid, commencing in the first quarter of 2007, the operations of Packer
and its subsidiaries will be included in the Company's financial reports (consolidated) as a
business segment.
1.18.1.6
Dividend
To the best of the Company's knowledge, Packer has a dividend distribution policy that
sets the distributed dividend at least 25% of the annual profit. In practice, in 2004 Packer
distributed dividend at the rate of 58% of the annual profit (of 2003), in 2005 Packer
distributed dividend at the rate of 39% of the annual profit (of 2004), and in 2006 Packer
distributed dividend at the rate of 359% of the annual profit (of 2005).
1.18.2
Financial information about Packer's segments of operations
1.18.2.1
The Packer Group had two principal segments of operations, that are reported as business
segments in its financial statements (consolidated):
The steel segment – in this segment the Packer Group operates through Packer YDPZ
(including through its subsidiaries) and Earlsfield Steels Ltd. (Cyprus).
The ceramics segment - in this segment the Packer Group operates through Negev
Ceramics Ltd. ("Negev Ceramics"), a public company the securities of which are listed
on the Tel Aviv Stock Exchange1, and though companies controlled by Negev Ceramics
(jointly : "Negev Ceramics Group").
1
As of the date of the Periodic Report, Packer holds approximately 70.25% of Negev Ceramics' issued capital
and the voting rights in it. To the best of the Company’s knowledge, according to agreements dated 2004
Packer granted to the CEO of Negev Ceramics an irrevocable option to require Packer to purchase from him
until December 31, 2007 his entire holdings in Negev Ceramics, up to 13.56% of Negev Ceramics' issued
capital in total and 7% in one calendar year, subject to terms set by the parties. To the best of the Company's
knowledge, as of the date of the Periodic Report, the CEO of Negev Ceramics has not yet exercised the said
options, and he holds, through a corporation controlled by him, approximately 5% of Negev Ceramics' issued
capital (having sold some of Negev Ceramics' issued capital that was owned by him).
285
1.18.2.2
The Packer Group operates primarily in Israel. Due to fierce competition in the industry,
Packer has begun to expand its operations in high-growth countries.
1.18.2.3
Below are consolidated financial data of the packer Group, by segments of operations, in
NIS thousands:
Steel segment
Ceramics segment
2004
2005
Revenues
784,412
902,306
868,939 285,682
325,773
338,343 1,068,094
1,228,079 1,207,282
Costs
708,890
851,151
787,709 267,243
306,823
319,320
976,133
1,157,974 1,107,029
Operating
profits (loss)
73,522
51,155
81,230
18,439
18,950
19,023
91,961
70,105
Minority
share
(9,781)
(2,781) (12,748)
(2,691)
(2,944)
(3,131)
(12,472)
(5,725)
803,582 208,516
232,826
Total assets
as of
December 31
880,857
926,103
2006
2004
2005
Consolidated
2006
2004
240,223 1,089,373
2005
2006
General environment
1.18.3.1
Steel is a significant raw material for Packer YDPZ, and its prices are prone to high
volatility. 2004 was characterized by sharp price increases, however in 2005 this trend
was replaced by price decreases, that were curbed at the end of the year, while 2006 was
once again characterized by price increases. This volatility affects the Packer Group's
steel sale prices, since at times it finds itself holding steel inventory purchased at the
previous price level (lower or higher prices – depending on the steel price trends), while it
is required to adapt its prices to its customers according to the present steel price. For
additional details of the exposure to steel price volatility, see Section 1.18.4.17 (A) below.
The raw materials constitute a significant component in the manufacturing costs of the
products manufactured by Negev Ceramics, and represent approximately 33% of Negev
Ceramics' sales volume.
Over the past few years, the prices of the raw materials
increased, inter alia due to the rise in energy prices and international transportation prices,
that have in turn lead to erosion in the gross profitability rate.
1.18.3.3
(15,879)
1,158,929 1,043,805
1.18.3
1.18.3.2
100,253
The Group is adversely affected by the recession in the recent years, in the Israeli
infrastructure, construction and industry segments.
1.18.3.4 In the beginning of April 2004, the government cancelled the purchase tax on the import of
ceramics and porcelain tiles, as well as sanitary utensils, that represented 10% of the sale
prices of the same. As a result, the import costs, that constitute approximately 90% of the
marketing volume in the local market, declined and lead in turn to a decline in the market
prices and sales turnover.
286
Additional information about Packer's segments of operations
1.18.4
The steel segment
1.18.4.1
The Packer Group's principal products and services in the steel segment are presented
below:
A.
Operations in Israel – steel and tin processing and rendering of steel services to the
industry; aluminum and stainless steel trade; manufacturing, import of steel pipes and
profiles, and their marketing to customers in Israel, for structures and conduction of
liquids; hot zinc galvanizing of steel products for the metal industry; pull processing and
marketing of steel and brass bars; manufacturing and marketing of greenhouses in Israel
and overseas; trade in special steels and tool steel; manufacturing of communication
cabinet and electronic equipment; manufacturing and marketing of lampposts (designated
for Ma'atz [Israel National Roads Company], local authorities and public institutions).
B.
Operations outside Israel – tin, profiles, bars and corrugated tin operations in Romania
and Bulgaria; special steels operations in Cyprus. Until the end of 2006, the Company
operated also in Moscow, Russia.
C.
The Packer Group's various operations in the steel segment are similar in characteristics in
terms of acquisition, inventory, logistics, management, computerization, market risks,
marketing, customers, distribution and cooperation with customers, suppliers etc.
1.18.4.2
Customers
Most of the customers of the Packer Group in the steel segment are industrial and
commercial customers, who use the Packer Group's products as raw materials for their
products or as part of their products. The Packer Group's products in the steel segment are
designated for customers in the construction, agriculture, consumer products,
infrastructure, automobile, metal food packages, machining workshops, merchants, etc.
1.18.4.3
In this segment of operations, the Packer Group has a marketing layout that operates
through salespeople.
1.18.4.4
Competition
The Packer Group is a leader in the steel segment in Israel, with years of reputation, inter
alia because it markets a wide variety of products and services, and is able to provide
response to the special needs of its customers. The Packer Group's market share cannot be
estimated.
In general, in recent years the local industry has suffered low yield, partly due to the local
and worldwide crisis, and partly due to deeper processes of transfer of the metal industry
(that has an abundance of manpower) to countries where wages are lower (processes
similar to those undergone by the textile industry). As a result, the local market suffers
287
from surplus production means and severe competition. The flat steel segment is
characterized by intense competitiveness, and in recent years several competitors entered
this segment (such as Scope Metal Trading & Technical Services Ltd., Ran Steels Ltd.,
and Poliran Ltd.). Packer estimates that the changes in the market will lead to the erosion
of margins, and may decrease Packer's market share.
The information in this Section is forward looking information, that may not be realized,
and it is based on Packer 's estimates and projections based on the current data at Packer's
disposal. There is no certainty that the said in this Section shall be realized, and in the
event that it is realized– the extent of its impact is unknown.
Another advantage that Packer has over its competitors is, is that the Group does not rely
on outside companies. The majority of the Packer Group's operations are conducted under
one roof in the facility in Kiryat Malachi. This gives the Packer Group a competitive
advantage, allowing it to save in operating expenses and providing increased efficiency in
respect to the conveyance of products. In addition, Packer expanded its stainless steel,
aluminum, stainless steel, pipes and bars operations, in which competitiveness is lower.
1.18.4.5
Manufacturing capacity
In the steel segment, the Packer Group does not utilize the full extent of its manufacturing
capability. The Packer Group estimates, that its output can be increased by approximately
30%, however based on the present level of demand in the market, the said expansion is
unnecessary.
1.18.4.6
The Packer Group operates in five sites, of which three are rented, one is under capitalized
lease from the Israel Land Administration, and another site is partially rented and partially
under lease as aforesaid. The depreciated cost of the said real estate, that is stated as fixed
assets in Packer's books, amounted as of December 31, 2006 to approximately NIS 60
million. In addition, Packer has fixed assets (mainly facility equipment) the depreciated
cost of which in Packer's books amounted as of December 31, 2006 to approximately NIS
63 million.
1.18.4.7
Human capital
A.
As of December 31, 2006, the Packer Group employed in the steel segment about 546
people (compared with 558 people employed by it as of December 31, 2005).
B.
In April 2005, as part of steps taken in frame of a re-organization, the Packer Group's
galvanizing facility in Arad was closed and about 30 of its employees were dismissed. In
August 2006, following the sharp rise in zinc prices and the decline in demand, the
Packer Group shut down one of its galvanizing pools in Kiryat Malachi, subsequent to
which about 30 of its employees were dismissed.
288
C.
Most of the Packer Group's employees in Israel are employed under the provisions of
general and/or special collective labor agreements. Some of the executive officers and the
management and headquarters employees in the Packer Group are employed under
personal employment contracts that regulate their terms of employment in the Packer
Group.
The principal collective labor agreements entered into by Packer Steel are specified
below: (1) a collective agreement between Packer YDPZ Galvanizing Enterprises Ltd.
(below in this Section: "the Facility") and the Facility employees' committee dated June
2006. This agreement regulates the dismissal of 24 of the Facility's employees. Inter alia,
the agreement sets that the terms and employment level of the Facility's remaining
employees will not be harmed, and should the Facility resolve to further reduce the
number of its employees, no employees will be dismissed without the approval of the
employees committee. The agreement is in effect for two years commencing the date it
was entered into, and ends on June 29, 2008. (2) A special collective agreement between
Packer YDPZ Steel Services Ltd. and Packer YDPZ Dike Steels Ltd. (jointly called below
in this Section: "Steel Services") and the Steel Services employees' committee, dated
September 2004, in frame of a reorganization in the Packer YDPZ Facility and transfer of
the steel segment employees in the Steel Services to facilities in the Packer Group sites in
Or Akiva and Kiryat Malachi. The agreement sets, inter alia, that dismissed employees
will be entitled to increased severance pay according to their employment seniority in
Steel Services, in addition to a monetary bonus. The agreement is in effect for five years
commencing on the date it was entered into, and ends on September 23, 2009. The parties
to this agreement undertook to refrain from taking any organizational steps and to
maintain an orderly course of work and a temporary state of peace.
D.
In frame of the merger agreement between Packer and YDPZ, as specified below, Packer
and YDPZ entered into term long management services agreements.
1.18.4.8
A.
The Packer Group is engaged in the import of tin rolls and bars
from various facilities
worldwide, and in their processing into end products. Some of the Packer Group's
products are on-the-shelf products, and the rest are manufactured and processed according
to the unique requirements of the customers of the Packer Group. In addition, the Packer
Group imports zinc and quality steels.
B.
These raw materials are standard components, imported mostly from European countries
(including Italy, France, Russia and Ukraine). Some of the raw materials are imported also
from China and India.
289
1.18.4.9
Working capital
A.
The trend of increase in steel prices in recent years required Packer to make significant
investments in working capital, as is specified in Section 1.18.3.1 above.
B.
In frame of its steel operations, the Packer Group strives to keep as low a steels inventory
as possible. The Packer Group keeps an average inventory of about four sale months.
C.
The Packer Group grants its customers credit at large volumes, the balance of this credit in
the steel segment as of December 31, 2006 was NIS 377 million. Some of the credit
granted to the Packer Group's customers (about 51%) is secured by third party checks, and
the remaining balance (49%) is not secured. The Packer Group examines the credit
volume granted to its customers from time to time, based on various economic
parameters.
D.
The Packer Group receives credit from its overseas suppliers. In some cases this credit is
granted as an open debt, and at other times it is granted against a letter of credit. The
balance of the credit granted to the Packer Group from suppliers as of December 31, 2006
was approximately NIS 78 million.
1.18.4.10 Financing
A.
The average interest rate on loans outstanding during 2006 is presented below:
Short term
loans
Banking
resources
Shekel
(unlinked)
Shekel, linked
Dollar
Bonds1
(negotiable)
Shekel, linked
Long term loans
Average interest
rate
5.5%-7.25%
7.6%
6.5%
L+1%
4.25%-5.6%
L+1.25%-2%
5%
L+1.5%
6.5%
6.5%
6.5%
The balance of the bonds as of December 31, 2006 was approximately NIS 4,180
thousands.
B.
Packer's subsidiary, Packer YDPZ is required to maintain an equity to balance sheet ratio
of 22%, and minimum equity of NIS 120 million. This requirement is adjusted to the
price increases of raw materials (steel)2. The source of the restriction on Packer YDPZ is
the approved obligo facility.
C.
As of the date of the Periodic Report, the Packer Group has, in respect of the steel
operations, credit facilities in the approximate amount of NIS 660 million. As of the date
1
2
Packer YDPZ bonds, listed for trade. The bonds are neither rated nor secured.
The said adjustment requirement in maintaining the equity to balance sheet ratio derives from the need for
adjustments in respect to the prices of raw materials, since when the prices of raw materials (steel) rise, the
sale prices to customers increase accordingly, which in turn increased customer credit.
290
of the Periodic Report, the utilized balance of the said credit facilities amounts to
approximately NIS 450 million.
1.18.4.11 Taxation
A.
The facilities of subsidiaries were granted the "Approved Enterprise" status in the
alternative benefits track, in accordance with the Encouragement of Capital Investment
Law - 1959.
In 2004, a letter of approval in the alternative benefits track was granted, for the
expansion of two of the Packer Group's facilities in Kiryat Malachi, in accordance with
the terms specified in the said letter of approval. Implementation of this plan has not yet
been completed.
Profits distributed out of income attributed to the approved enterprise, will bear tax at a
rate of 15%. Should the distributed profits derive from nontaxable income attributed to the
approved enterprise, Packer will bear an additional tax, at the rate of 25%.
B.
Packer and some of its subsidiaries are industrial companies, as the meaning set against it
in the Encouragement of Industry Law (Taxes) Law - 1969. The said companies are
entitled, by virtue of the said Law, to certain benefits, the most significant of which is
increased depreciation rate.
1.18.4.12 Environmental issues
A.
A subsidiary of Packer YDPZ, that provides galvanizing services in hot zinc to the metal
industry, is working in cooperation with the authorities of the Ministry of the
Environment, to solve problems of industrial wastewater and air pollution that are entailed
in the galvanizing process. The said company removes industrial wastewater from the
facilities in Kiryat Malachi and Ashkelon, by transporting them to recognized wastewater
treatment sites.
B.
In 2006, the costs of the Packer Group in the steel segment, that are attributed to its
operations in respect of compliance with the environmental directives applying to it,
amounted to approximately NIS 1.95 million (of which approximately NIS 1.85 million
are current expenses, and the remainder is a non-recurring investment), compared with
approximately NIS 2.8 million in 2005.
C.
The Packer Group estimates, that in 2007 it will spend approximately NIS 1.9 million on
its efforts to comply with the environmental directives (of which approximately NIS 1.8
million are current expenses).
D.
In the past year, the Ministry of Environmental Protection issued a new directive, for the
treatment of the gases and fumes discharged from the chemical preparation layout of the
galvanizing facility in Kiryat Malachi. As of the date of the Periodic Report, discussions
are being conducted with the Ministry of Environmental Protection about the scope of this
requirement and the method to be undertaken by Packer YDPZ in order to comply with
291
the said requirement. As of the date of the Periodic Report, the Packer Group had
submitted a plan for the said treatment of gases and fumes, and the same awaits the
approval of the Ministry of Environmental Protection. The Packer Group estimates, that
the expected cost of the said treatment will be approximately NIS 2 million (in addition to
current expenses), however the Packer Group estimates, that this cost, if any, will be
realized in 2008.
The aforesaid information in respect to the costs and expenses projected for the
forthcoming years due to the environmental directives is forward looking. The said
financial data are based on the Packer Group's past experience and Packer's projections,
that are based on the extent of the current environmental pollution by the Packer Group,
and the environmental directives in their current version. The aforesaid projections may
not be realized, in the event of future changes to the regulatory provisions in respect to the
environment, and in the event that the Packer Group's pollution of the environment will
change as a result of changes in its scope of operations.
E.
To the best of the Company's knowledge, according to information Packer provided it, the
facilities of the Packer Group in the steel segment are operating in accordance with the
environmental directives of the authorities, and in cases where deviations exist from the
said requirements, the Packer Group is working to correct the same in cooperation with
the competent authorities. In general, the facilities of the Packer Group in the steel
segment monitor air discharged from the flues, environmental noise impact and
wastewater.
1.18.4.13 Restrictions and regulation of steel operations
A.
The operations of some of the companies in the Packer Group are subject to the provisions
of the Hazardous Substances Law-1993, and the Nuisance Prevention Law-1961. These
companies have the approvals and permits required for the said operations.
B.
Business licenses – the facilities of the Packer Group in Kiryat Malachi and Haifa hold
business license (temporary or permanent). The facilities of the Packer Group in
Ashkelon, Or Akiva and Yavne are in the process of obtaining a business license.
1.18.4.14
Risk factors
The steel operations are affected, inter alia, by the following segmental and unique risk
factors: (a) exposure to steel prices volatility - the Packer Group's steel inventory and open
orders expose it to risks that accompany declines in steel prices, since in the event of
prices decline, the Packer Group adjusts its prices for its customers, while in practice it
uses existing inventory that was purchased at the previous price level (the high one); (b)
exposure to changes in exchange rates – this exposure is relevant for the Packer Group,
since most of the raw materials and the finished inventory are purchased by its in foreign
currency, or are affected by changes in foreign exchange rates; (c) exposure to changes in
292
interest rates - the majority of the financing of the Packer Group's steel operations is in
short and long term bank credit (see Section 1.18.4.13 above), hence the existing exposure
to the possible interest rate changes; (d) exposure to bad debts, see also Section 1.18.4.12
above; (e) a significant part of the Packer Group's steel operations are conducted in its
Kiryat Malachi facility. Damage due to natural disasters or any other significant damage
to the said facility, could have a material affect on the Packer Group's steel operations.
1.18.5
The ceramics segment
1.18.5.1
A.
In this segment, the Packer Group engages, through the Negev Ceramics Group, mainly in
the marketing and sale of construction finishing products, for the construction, renovation
and home design segments.
B.
The Packer Group markets, in this segment, self-manufactured construction finishing
products, that are manufactured in Negev Ceramics' facility in Yeruham, and products that
are purchased from various suppliers in Israel and overseas.
C.
These products are of a wide variety, and include porcelain tiles (mostly glazed) as well as
ceramics for flooring and cladding, that are manufactured in Negev Ceramics' facility in
Yeruham. The products include also ceramic and porcelain tiles, mosaic, marble, pool
tiles, parquet, sanitary products, faucets, bathroom accessories, adhesives and accessory
materials, manufactured locally or imported, that supplement the Packer Group's range of
products in this segment.
D.
Changes occurring in the demand for the marketed products, derive from changing
fashions and changes in price levels. Negev Ceramics' management estimates, that the
said changing fashions have no material effect on the operations of the Packer Group in
this segment.
E.
In respect to some of the imported products that are sold by the Packer Group in this
segment, the same has entered into exclusivity agreements with the manufacturers of these
products. However, there are alternative products to these, that are sold by other players in
the market that the Packer Group operates in as aforesaid.
1.18.5.2
Customers
The Packer Group's customers in this segment are divided into two types: (a) direct
marketing – direct marketing to end consumers in the renovation and new construction
segments, through a national store chain, surplus stores, construction companies and
private individuals who build or renovate their home privately or people who buy an
apartment from a contractor and upgrade the standard provided in frame of the purchase;
(b) indirect marketing to dealers - current marketing to dealers across the country.
293
Negev Ceramics' management estimates, that as of the date of the Periodic Report, the
volume of export in the ceramics segment is not material to the Packer Group's operations
in this segment.
1.18.5.3
Marketing and sales
A.
The Packer Group's sales and marketing layout in this segment in Israel serves direct
marketing customers, inter alia through chains stores. The said customers include random
customers, private customers in residential projects in new construction, construction
contractors that execute works in commercial projects, public projects, institutions,
handymen and dealers.
B.
In addition, the Packer Group markets its products, through its in-house sales agents, to
contractors and dealers, as well as to the Group's chain stores that are located in major
cities across the country, in which the Packer Group's products in this segment are
displayed.
C.
The marketing communication channels that the Packer Group makes use of in this
segment are: advertising channels (such as television and the printed media), public
relations, marketing among professionals (networking with architects, contractors and
other construction and renovation professionals in frame of shows, professional
conventions and regular work meetings) and an informative website.
D.
The Packer Group's advertising and sales promotion expenses in this segment, in the years
2004, 2005, 2006 were NIS 5,184 thousand, NIS 4,758 thousand and NIS 5,545 thousand,
respectively. Negev Ceramics' management estimates, that as of the Periodic Report date,
the said advertising expenses in the ceramics segment are immaterial to the operations of
the Packers Group.
1.18.5.4
Backlog of orders
A.
As of December 31, 2006, the Packer Group's backlog in the ceramics segment amounted
to approximately NIS 35 million (compared with NIS 25 million as of December 31,
2005).
B.
The Packer Group's backlog in the ceramics segment derives mostly from orders by
private customers who build or renovate their home privately or people who buy an
apartment from a contractor and upgrade the standard provided in frame of the purchase
agreement with the contractor. In the ceramics segment, the Packer Group is unable to
estimate the realization dates, especially in residential projects, due to the nature of the
operations in the industry (dependence on the progress of the construction of the projects).
Based on the Packer Group's past experience, the majority of the orders contained in its
backlog are supplied in the six months immediately after the order is made.
294
1.18.5.5
Competition
A.
To the best of the Negev Ceramics' knowledge, many companies are active in this
segment in which the Packer Group operates, including small marketers. This segment is
controlled mainly by a large number of importers, who sell and market similar and
alternative products, that constitute serious competition to the Packer Group's products.
B.
In this segment, the Packer Group's market share of ceramic and porcelain flooring and
cladding tiles (not including the territories of the Palestinian Authority), based on data
generated from the customs department's information services system and from in-house
calculations by Negev Ceramics, is as follows: 2004 – 22.1%, 2005 – 21.9%, 2006 –
21.7%.
C.
Negev Ceramics' management estimates, that in the construction finishing products
segment, the Packer Group through Negev Ceramics is the leader of the ceramics
segment, in terms of volume of operations. However, negative factors that effect or that
may effect Negev Ceramics' competitive position include the slowdown in the economy,
that affects the volume of private consumption of brand quality products, as well as the
development of sales and marketing capabilities by competitors, that may reduce the
Packer Group's competitive advantage in this segment.
1.18.5.6
Manufacturing capacity
The Packer Group utilizes its full manufacturing capacity in the ceramics segment.
Therefore, Negev Ceramics' management estimates that, due to the fact that the majority
of the sales of the Packer Group in the ceramics segment originate from products
purchased by the Negev Ceramics Group, the manufacturing capacity of the Negev
Ceramics Group facility, that is operating at full capacity, does not constitute a limitation
on increase of the sales in the ceramics segment.
1.18.5.7
A.
In the ceramics segment, the Packer Group operates in 10 rented sites (including a store in
the facility in Yeruham, a store in the distribution center and headquarters in Rishon
Lezion, and 8 other stores across the country). In addition, the Negev Ceramics Group
owns two apartments in Be'er Sheva and part of a real estate property in the Nesher
industrial area in Haifa, through a subsidiary, Maklef 51 Ltd. (50% of which are owned by
Negev Ceramics). The depreciated cost of the said real estate properties in the Nesher
industrial area, that are states as fixed assets in Negev Ceramics' books, amounted as of
December 31, 2006 to approximately NIS 1.39 million.
B.
In addition, the Negev Ceramics Group has fixed assets, the depreciated cost of which in
Negev Ceramics' books amounted as of December 31, 2006 to approximately NIS 51.9
million (without the real estate specified in Section 1.18.5.7 (A) above).
295
C.
The Packer Group's total expenses in the ceramics segment in the sites it operates in
(including the facility), amounted in the years 2004, 2005, 2006 to approximately NIS 6.9
million, NIS 6.5 million and NIS 6.5 million, respectively.
1.18.5.8
Intangible assets
The following trade names that the Packer Group makes use of, are registered with the
Trademarks Registrar in Israel, in the ceramics segment: (a) "NOVO"; (b) "NOVO &
Device in Color"; (c) "Negev", "Negev" [in Hebrew], "Negev" [in Hebrew, multicolored
logo]. In addition, it should be noted that Negev Ceramics registered a patent in Israel, on
the subject "Ceramic Tile and Prefabricated Panel Plated With Tiles, and Methods For
Their Manufacturing".
1.18.5.9
Human Capital
A.
As of December 31, 2004, as of December 31, 2005 and as of December 31, 2006 the
Packer Group had 395, 416 and 432 employees, respectively, in the ceramics segment,
including employees from manpower companies. The number of employees in 2006 grew
mainly due to expansion of the customer service department in the Negev Ceramics
Group, as well as due to the increase in the number of employees in Negev Ceramics'
chain stores.
B.
The employees of the Packer Group's facility in the ceramics segment are divided into
three principal groups: (a) most of the employees are permanent employees, who are
employed under a collective labor agreement (the most recent of which is in effect until
December 31, 2007); (b) manufacturing employees (second generation) who are
employed under personal employment contracts, and that the said collective labor
agreement does not apply to; (c) the facility's management employees, who are employed
under personal employment contracts. The rest of the Packer Group's employees in the
ceramics segment are employed mostly under personal contracts or under agreements
with manpower companies.
1.18.5.10 Raw materials and suppliers
A.
The raw materials that are used in the manufacturing of ceramic and porcelain tiles are
divided into two principal groups: (1) raw materials used in the manufacturing of the tile
body, that are purchased in Israel and overseas; (2) raw materials that are used to glaze the
surface of the tile, that are purchased mainly overseas.
B.
Due to the absence of natural gas in Israel, Negev Ceramics' facility operates on liquefied
petroleum gas.
C.
In addition to the manufacturing processes, the Packer Group purchases in the ceramics
segment finished products in Israel and overseas.
D.
Negev Ceramics' management estimates, that it is not dependant on any one specific raw
materials supplier. In this context it should be noted, that in the ceramics segment, the
296
Packer Group is the exclusive representative of the Turkish "KALE" concern, that
manufactures mainly ceramic tiles for flooring and floor cladding. The Packer Group's
sales of "KALE" products in the ceramics segment represented in the years 2004, 2005
and 2006 approximately 19%, 17% and 14%, respectively of the Packer Group's sales
turnover in this sub-segment. Negev Ceramics' management estimates, that cancellation
of this company's representation could harm the operations of the Packer Group in this
segment in the short range only, since in the medium range and thereafter the Packer
Group will enter into agreements with alternative supply sources overseas, with whom the
Group has business relations. It is clarified, that the said estimates are forward looking,
and may not realized. The said estimates are based on examination of the alternatives
available in the market, in respect of suppliers in this segment.
1.18.5.11 Working capital
A.
For the purpose of manufacturing tiles in the facility, the Packer Group holds a raw
materials inventory for a period of four to ten months. In the ceramic segment, the Packer
Group customarily holds about two months of finished products manufactured by it,
where slower-selling products have a longer shelf life. Purchased products have an
average shelf life of three months. The Packer Group grants warranty to products in the
ceramics segment in accordance with the provisions of the Sale Law-1968 and allows the
return of products subject to set conditions and/or in accordance with the Consumer
Protection Law-1981.
B.
In the ceramics segment, the Packer Group grants its customers credit of up to 120 days,
according to the customer and the type of agreement entered into with it. In 2006, the
average credit period was 2 sale months, compared with 2.6 sale months in 2005. The
average volume of customer credit in 2006 was approximately NIS 96 million, compared
with approximately NIS 101 million in 2005.
C.
In the ceramics segment, the Packer Group is granted credit by its suppliers for a period
ranging from 90 to 150 days. In 2006, the suppliers granted the Packer Group, in respect
to its ceramics operations, credit for an average period of 110 days, compared with 106
days in 2005. The average volume of supplier credit in 2006 was approximately NIS 78
million, compared with approximately NIS 80 million in 2005.
1.18.5.12 Financing
A.
The average interest rate on outstanding loans during 2006 is presented below:
Short term
loans
Long term loans
Average interest
rate
Banking resources
8,887
11,968
4.9%
Non-banking
resources
25,716
13,028
5.5%
297
B.
The Packer Group finances its ceramics operations through bank and non-bank credit. The
Negev Ceramics group granted floating lien on its assets and fixed charge on the unpaid
share capital, goodwill and insurance fees in favor of commercial banks (pari pasu). In
addition, Negev Ceramics has floating lien on its machines, equipment, tools, facilities
and real estate properties in favor of the State of Israel, in respect to Negev Ceramics'
Approved Enterprise in Yeruham.
C.
As of the date of the Periodic Report, the Negev Ceramics Group has credit facilities
(import facilities) in the total approximate amount of NIS 75 million. As of the date of the
Periodic Report, the utilized balance of the said credit facilities amounts to approximately
NIS 45 million.
1.18.5.13 Taxation
The principal tax laws pertaining to the operations of the Packer Group in the ceramics
segment, other than the general tax laws, are provided below:
A.
Negev Ceramics is an "industrial company", as the meaning set against it in the
Encouragement of Industry Law (Taxes) Law-1969, and is accordingly entitled to
benefits, the most significant of which is an increased depreciation rate in respect to
equipment used in industrial operations, or patents (at a rate of 12.5% of the original
price) that are used for the development or advancement of the facility in Yeruham, held
by the Negev Ceramics Group.
B.
The companies in the Negev Ceramic Group file independent tax state,emts that are
accepted as final assessments for the period up to the 2001 tax year, inclusive.
A
subsidiary of Negev Ceramics received tax assessments from the Income Tax Authorities
in respect to the years 2002 to 2004, according to which revenues should be added in the
total nominal amount of approximately NIS 27 million (not including interest and linkage
differences), deriving from transactions between the said subsidiary and Negev Ceramics.
Should the position of the Income Tax Authorities be accepted, the amounts added as
income in the said subsidiary are expected to be recognized as expense for Negev
Ceramics. Negev Ceramics' management disagrees with the said position of the Tax
Authorities, and has filed an objection in respect to the same. The said objection has not
been deliberated yet. In this preliminary stage, the outcome of these proceedings cannot
be assessed, and a provision has therefore not been recorded in the Negev Ceramics
Group's consolidated financial statements.
C.
Negev Ceramics was granted an "Approved Enterprise" status in accordance with the
Encouragement of Capital Investment Law-1959. In December 2001, the Investment
Center Administration resolved to approve for Negev Ceramics an investment plan in
fixed assets, in accordance with the Law, in the approximate amount of NIS 6,552
298
thousand, for the expansion of the Negev facility for the manufacturing of granite
porcelain tiles in Yeruham, Development Area A. In December 2005 a decision was made
to update the investments list in the said plan, which resulted in an approved investment
supplement in the approximate amount of NIS 3,527 thousand. In addition, on August 15,
2006, another resolution approved an additional investment supplement in the
approximate amount of NIS 2,542 thousand. Implementation of the investments according
to the approved plan will entitle Negev Ceramics to investment grants and other tax
benefits.
1.18.5.14 Environment
In this segment, the Packer Group is under the regular supervision of the Israeli
environment authorities, and complies with various criteria. The environmental directives
have no material effect on the Packer Group in this segment.
1.18.5.15 Restrictions and regulation of ceramics operations
A.
Business licenses – in this segment, the Packer Group has 10 stores across the country,
and all of them are required to hold a valid business license. The Negev Ceramics Group
stores (including the logistics center in Rishon Lezion) have a business license, temporary
or permanent, with the exception of the store in Haifa. The Packer Group has yet to
receive a business license for the store in Haifa, however Negev Ceramics' management
estimates, that considering the fact that in 2007 the store is scheduled to move to its new
location on real estate owned by the Packer Group in the Nesher industrial area in Haifa,
this is not expected to have a material affect on the Packer Group's ceramics operations.
B.
Negev Ceramics is an approved supplier for the Ministry of Defense.
1.18.5.16 Risk factors
The steel operations are affected, inter alia, from the following segmental and unique risk
factors: (a) exposure to sale prices – exposure to the risk of the sale prices of the products
declining due to changing market conditions; (b) fluctuations in the new construction
industry - new construction is dependant on the development of the real estate market,
and fluctuations in this industry may therefore affect the ceramics segment; (c) changes in
the economic conditions in Turkey and China could affect the ceramics operations, due
the sharp increase, in recent years, of imports to Israel from Turkey and
China, as a
result of the cheap cost of products originating in these manufacturing superpowers, the
absence of significant entry barriers, and the sharp rise in the euro; (d) dependence on a
principal supplier in the short term – see Section 1.18.5.10 (D) above; (e) exposure to bad
debts; (f) exposure to technological changes and changes in consumer preference; (f)
fluctuations in the prices of raw materials – extreme change in the prices of the raw
materials purchased by the Packer Group could affect profitability; (g) exposure to
changes in gas prices – until 1995, natural gas had been used as the primary energy source
299
for manufacturing. Due to the absence of natural gas in Israel, Negev Ceramics' facility in
Yeruham began using liquefied petroleum gas,
the price of which has increased
substantially in recent years due to the increase in the prices of oil, from which it is
manufactured; (h) development of similar products – the products developed by the
Packer Group in its facility in Yeruham are branded under the brand name established by
the Packer Group in the local market ("NOVO"), that is protected under trademarks or
patents. There exists a risk, as indeed was the case in the past, that the Packer Group's
competitors in this segment will develop overseas products that are similar to those
developed by the Packer Group in this segment as aforesaid; (i) raw materials supply –
most of the Packer Group's raw materials are imported from overseas. Difficulties in the
regular supply of raw material, resulting, e.g., from strikes, could slow manufacturing in
the facility; (j) manufacturing in a single facility – a substantial part of the Packer Group's
operations in this segment derive from the manufacturing in the Packer Group's facility in
Yeruham. Damage due to natural disasters or any other significant damage to the said
site, could have a material affect on the Packer Group's operations in this segment.
1.19
Derech Eretz Highways (1997) Ltd.
1.19.1
General
1.19.1.1
Derech Eretz Highways (1997) Ltd. (Derech Eretz) was incorporated in April 1997, as a
private, limited liability company.
1.19.1.2
Derech Eretz is engaged in the financing, construction and operation of a toll road, known
as the "Cross Israel Highway" or "Highway 6", including the collection of tolls from users
of the road, in accordance with the provisions of the concession contract (in respect to the
said road) as defined below. According to the said concession contract, Derech Eretz is
operating as a single-purpose company, the purpose of which is to uphold and comply
with the undertakings and to receive the rights as provided for in the concession contract,
and other related operations.
1.19.1.3
Significant transactions in the shares of Derech Eretz
A.
As of December 31, 2004, the Company, Housing and Construction Holding Company
Ltd. and Canadian Highways Investment Corporation held each 33.3% of Derech Eretz's
share capital and means of control. According to the agreement with the State of Israel
dated May 2004, the share capital holdings were altered as presented below (the alteration
was approved by the Finance Minister):
300
Shareholder
Share capital holdings
(%)
The Company
37.5%
Housing and Construction Holding Company Ltd.
37.5%
Canadian Highways Investment Corporation
B.
25%
Derech Eretz's shareholders have invested approximately NIS 11.2 million in its share
capital, and approximately NIS 550.4 in subordinated
loans, that are linked to the
Consumer Price Index, bear an annual interest of 8% (the holding proportions in the
subordinated debt are the same as the holding proportions in Derech Eretz's share capital)
and the repayment dates of which have yet to be set ("Subordinated Debt")1. Out of the
said amount, as of September 30, 2006 approximately NIS 5.4 million were repaid to the
shareholders, in frame of the calculation in respect to the determination of the ratio
between the senior debt in the project and the investments of the shareholders in the share
capital and in the Subordinated Debt. The senior debt was rated as Aa2.
According to the financing agreements of the project, as the same is defined below,
Derech Eretz's shares are registered in the name of Poalim Trust Services Ltd., as security
for repayment of Derech Eretz's loans and those of its shareholders, in frame of the said
financing of the project.
C.
As provided for in the concession agreement, as the same is defined below, an agreement
was signed between the State, Derech Eretz and its shareholders, according to which
Derech Eretz granted to the Company, for no consideration, 49 option deeds for
certificates of participation ("the Option Deeds"), that grant their holders the right to
purchase certificates of participation in 49% of any divided distribution by Derech Eretz,
and certificates of participation in 49% of principal and interest repayments in respect to
Subordinated Debt ("the Option Agreement"). The exercise period of the Option Deeds
commences upon completion of the construction and ends at the end of the concession
period.
The exercise price of the Option Deeds is NIS 147 million, linked to the
Consumer Price Index of April 1996, and bearing annual interest at a rate of 8%,
commencing July 19, 2002. The State may sell the Option Deeds to a third party, subject
to Derech Eretz's right of first refusal. When the certificates of participation is not held by
the State, a government company or a trustee of the state, its holder may convert it to
Derech Eretz's securities at any time, without further payment.
1
Canadian Highways Investment Corporation's loan was granted though its related company.
301
In 2006, the State requested Derech Eretz to cooperate with it in the examination of the
State's options considering the provisions of the Option Agreement.
D.
In February 2006, Housing and Construction Holding Company Ltd. and the Company,
that hold each 37.5% of Derech Eretz's share capital, entered into an agreement with five
Israeli financial institutions that financed the project, for waiver of their right to exercise
the lenders' options1 ("the Waiver Agreement"). In consideration for waiver of the
options, the companies paid the said financial institutions the total amount of USD 5
million, in equal shares. Since the Canadian partner in Derech Eretz ("CHIC") is not party
to the Waiver Agreement, it announced on March 9, 2006 (in accordance with the
agreement signed between Derech Eretz's shareholders), that it will pay its proportionate
part (in accordance with its holdings in Derech Eretz) out of the said USD 5 million to the
other shareholders, out of the profit distributed in respect to the project. CHIC's share will
bear interest at the annual rate of 6%, commencing on March 10, 2006.
1.19.2
Financial information
Derech Eretz has one segment of operations as aforesaid. Details out of Derech Eretz's
financial statements are provided below (in NIS thousands):
The year 2004
The year 2005
The year 2006
Net financing income
67,002
91,371
96,989
Operating profit
Total assets as of
December 31
14,020
21,973
21,262
6,241,161
6,933,295
7,085,847
1.19.3
1.19.3.1
In February 1998, Derech Eretz signed a BOT concession agreement ("the Concession
Agreement") with the State (operating through the Accountant General and/or the
competent authority,
Cross Israel Highway Ltd. ("the Competent Authority"),
according to which Derech Eretz will finance and construct a section of Cross Israel
Highway, about 86 kilometers long ("the Road" or "the Toll Road"), will widen the
Road following successful traffic tests towards the said widening, and will operate the
Road as a Toll Road, including toll collection, during the concession period that shall end
in 2029 ("the Concession Period")2 – (the financing, construction and operation of the
Road shall be called below: "the Project"). The Road is the first Toll Road in Israel.
1.19.3.2
The cost of constructing the Project is approximately USD 1.2 billion. In October 1999,
the agreements in respect to the construction and financing of the Project (below in this
1
2
"The lender options" are options that were granted to the project's shekel lenders, as the same is defined in
Section 1.19.3.2 below, for the purchase of 17% Derech Eretz's share capital and the rights to the
subordinated shareholders' loans, in consideration for approximately USD 20 million (subject to
adjustments).
At the end of the Concession Period, the Highway will be transferred to the State.
302
Section 1.19.3: "the Agreements") were signed. The financing arrangements were made
with a group of Israeli lenders, who grant Derech Eretz financing in shekels, as well as
with a North American party who organized the group of investors in dollar bonds ("the
Lenders", "the Shekel Lenders", and "the Dollar Lenders"). Derech Eretz's
shareholders invested in Derech Eretz an mount equal to about 10% of the project cost.
1.19.3.3
For the construction of the Road, Derech Eretz entered into a construction agreement with
the construction partnership "Derech Eretz Construction Joint Venture" together with the
partnership individuals, that are: Danya Cebus Ltd. (a subsidiary of the Company); Solel
Boneh Ltd. (a subsidiary of Housing and Construction Holding Company Ltd.); Solel
Boneh – Development and Roads Ltd. (a company fully controlled by Solel Boneh Ltd.)
and Canadian Highways Investment International Corporation Pte Ltd. (a Singaporean
company of the CHIC group) (the construction partnership and/or all its individuals shall
be known below as: "the Contractor"). The principles of the construction agreement
were set in the Concession Agreement. For additional details, see Section 1.11.2.2 above.
1.19.3.4
Immediately after the agreement was signed, the construction works were initiated by the
contractor. Following essential completion of the Toll Road, the various structures and
the supporting facilities, the Competent Authority granted a certificate of completion and
permission to operate the Toll Road in its entirety, in effect commencing April 28, 2004.
Derech Eretz submitted a final certificate of completion, that was approved by the Lenders
and their technical advisor, in effect commencing October 28, 2004.
1.19.3.5
For the purpose of operation of the Road and collection of tolls, a law was legislated and
regulations were regulated, that allow the concessionaire to charge payment for use of the
Road.
1.19.3.6
The revenues of the Project are from tolls in respect to usage of the Road and from other
services, as provided for in the Concession Agreement.
1.19.3.7
The Concession Agreement contains an undertaking by the State to guarantee toll
revenues (“the State Guarantee”), manifested in mechanisms designed to stabilize the
revenues from tolls, based on the State’s traffic projections on which the financial closing
had been based ("the State's Projection").
1.19.3.8
For the purpose of operating the Road, Derech Eretz entered into an operating and
maintenance agreement with a subcontractor ("the Operating Agreement") that is a
related party ( “the Operator”)1, for the Concession Period (subject to early exit dates as
set in the Operating Agreement).
1.19.3.9
According to the Operating Agreement, the Operator shall collect the toll and the
payments for special services rendered (as the same are defined in the Operating
1
The Operator's shareholders are the Company – 24.5% and Housing and Construction Holding Company Ltd.
– 24.5%, Canadian Highways Investment Corporation – 51%.
303
Agreement) from Road users, for the concessionaire. In consideration, the operator shall
receive from the concessionaire the amounts provided for in the Operating Agreement.
1.19.3.10 Cross Israel Highway Section 18 Project
A.
On January 12, 2006, a second addendum to the Concession Agreement was entered into
with the State of Israel (“the Addendum”), that includes section 18 of the Cross Israel
Highway (18 kilometers in the north section of the Cross Israel Highway, between Iron
Interchange and Road 70 – Ein Tut Interchange) in the Concession Agreement Derech
Eretz entered into with the State of Israel ("Section 18"). According to the Addendum,
Derech Eretz will finance, build, operate and maintain Section 18 (as a BOT project), and
in consideration, Derech Eretz will be entitled to collect and receive tolls for usage of
Section 18, until the end of the current Concession Period in respect to central section of
the Cross Israel Highway.
B.
According to the provisions of the Addendum, Derech Eretz shall execute the Section 18
Project through its wholly-owned subsidiary that was designated to execute the said
Project, under approval of the State. Accordingly, in January 2007 Derech Eretz
Highways Section 18 (2007) Ltd. was established ("Derech Eretz 18"). According to the
provisions of the Addendum, Derech Eretz shall assign to Derech Eretz 18 its rights to
finance, build, operate and maintain Section 18.
C.
Financing of the Section 18 Project – On February 6, 2007, an agreement was entered
into between Derech Eretz 18 and the Lenders of the Section 18 Project ("the Section 18
Lenders") for the financing of the Section 18 construction and operation project. In the
financing agreement, the Section 18 Lenders undertook to grant Derech Eretz 18 loans in
amounts of up to USD 144 million, at a fixed interest equaling the interest on government
bonds + 1.8%, for the approximate period of 20 years. The agreement is conditional on
the second Addendum coming into effect, and the undertaking to grant the said financing
is in effect until June 30, 2007.
In addition to the said financing through loans, the Project will also be financed through
mezzanine financing. The planned loan amount is approximately USD 90 million (USD
50 million for Section 18 and approximately USD 40 million repayment to Derech Eretz's
shareholders) and it will be repaid only if cash for payment is deposited in the distribution
account, following the distribution tests, in accordance with the financing agreements.
D.
For the purpose of construction of the Section 18 Project, Derech Eretz will enter into an
agreement with the Derech Eretz Joint Venture 18 Partnership, that was registered in
January 2007 ("Section 18 Partnership"), and that comprises Danya, the share of which
in the Section 18 Partnership is 50%, and Solel Boneh Ltd. (a subsidiary of Housing and
Construction Holding Company Ltd.) and Solel Boneh – Development and Roads Ltd. (a
company fully controlled by Solel Boneh Ltd.), with a 50% share in the Section 18
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Partnership, jointly and severally.
The Section 18 Partnership will assume all
undertakings of Derech Eretz 18 as provided for in the extended Concession Agreement,
in respect to the construction of Section 18.1
E.
On the date of the financial closing, when Derech Eretz is expected to enter into an
agreement with Section 18 Partnership as aforesaid, the addendum to the operation and
maintenance agreement, dated October 1999, in respect to the operation and maintenance
of Section 18 by the Operator, is also scheduled to be signed.
F.
Derech Eretz's management estimates, that the scope of Road construction works, to be
conducted by Derech Eretz Construction Joint Venture
Limited Partnership (the
partnership that had constructed the central section), subject to the required permits, will
be approximately USD 160 million, and are expected to continue about 33 months.
Section 18 will be operated by the Operator who operates also the central section. The
present Operation Agreement will be amended to apply also to the Section 18 Project.
G.
The aforesaid, with the exception of the signing of the Addendum and its content,
constitutes forward looking information that is based on the second Addendum to the
Concession Agreement. The said estimate may not be realized, or may be realized in a
manner that is different from Derech Eretz's estimates, in the event that the stipulations,
all or any, in the said Addendum, shall not be fulfilled, and the principal of which are: the
government resolution setting that Section 18 will be a toll road; the Minister of Finance
and Minister of Transportation's resolution, setting that Section 18 will be included in the
Concession Agreement; the Knesset Finance Committee's approval of the maximum toll
to be charged for a vehicle's usage of Section 18, or the formula for its calculation and the
way to update it; the competent authority's written approval of the solution found, to its
satisfaction, for the findings (the graves) discovered in Section 18.
1.19.3.11 Cross Israel Highway Sections 19 and 20 -The Cross Israel Highway Company instructed
Derech Eretz to initiate preparations for the operation of sections 19 and 20 of the Cross
Israel Highway, of approximately 35 kilometers in length, in the section between the
Sorek interchange in the north and the Ma'achaz interchange in the south (about 15
kilometers south of Kiryat Gat) as a toll road. Sections 19 and 20 had been paved by the
State, that had approached (through the Cross Israel Highway Company) Derech Eretz as
aforesaid, in accordance with the Concession Agreement. As of the date of the Periodic
Report, negotiations are being conducted with the State in respect to the terms of
operation and establishment of the toll system in sections 19 and 20. Nonetheless, the
1
It should be noted, that the parent company of the Canadian shareholder in Derech Eretz is not a member of
the said Partnership, and in light of this it was resolved that it will be entitled to a total payment of
approximately USD 3.5 million, payable by the Partnership.
305
parties have not yet reached an agreement on the principles in respect to the project’s
implementation.
The aforesaid constitutes forward looking information that is based on the mere existence
of the negotiations between Derech Eretz and the Cross Israel Highway Company, and
may not be realized should the said negotiations not mature to an agreement.
1.19.3.12 In June 2005, Derech Eretz Telecom Ltd., a wholly-owned subsidiary of Derech Eretz
("Telecom"),1 signed an agreement with Derech Eretz, that grants Telecom the right to
execute a project comprising the construction, management, operation and the right to use
ten cables designated for the placement of optical fibers along the Highway (“the
Communications Venture”). The agreement sets that the banks financing Derech Eretz's
operations may enforce any of the provisions of this agreement, subject to Derech Eretz's
Concession Agreement. The agreement will be in effect while the Concession Agreement
is in effect. In addition, a licensing agreement was entered into between Derech Eretz and
the State, according to which the State grants Derech Eretz the right to use the Venture's
real estate to execute the Venture through Telecom. The agreement set that the State
would be entitled to a share of Telecom’s revenues deriving from the Communications
Venture. The agreement will be in effect until the end of the Concession period. In this
frame, an investment was made of approximately NIS 17 millions in fixed assets. The
agreement has yet to be approved by the competent authority.
In 2005 and 2006, Telecom signed various accompanying agreement, that are conditional
on the approval of the State and the lenders, as is the Communication Venture.
Negotiations are currently taking place between Telecom and additional entities in respect
to sale of the right to use the cables.
1.19.4
Restrictions on dividend distribution
The main restrictions imposed on Derech Eretz in respect to dividend distribution are:
annual senior debt coverage ratio of at least 1.35 and dividend distribution not before
December 31, 2009.
The said option granted to the State constitutes an exception to the said restrictions. When
the said option of the State is exercised, the receipts of the exercise, subject to certain
provisions, will be designated for immediate distribution.
1.19.5
General environment and the effect of external factors
Derech Eretz's segment of operations is new in Israel. Towards investment in these
operations, many business projections had been prepared, including traffic and other
projections, that group the effect of many and varied factors on Derech Eretz's
performance during the Concession Period. Towards the preparation of these projections,
1
Telecom had been established on order to centralize incidental operations in respect to the awarding of the
right of use of underground infrastructure and optic cables in the Road path, to communication companies.
306
many assumptions had been made, including varied assessments. The actual behavior of
many factors, that is different from the projections used, as well as market changes in
respect to these factors, will affect the scope of use of the Road, costs entailed in its
operation, and Derech Eretz's financial results.
1.19.6
Customers
Derech Eretz's customers are the users of the Toll Road. The Road users are divided into
random users and registered users, who entered into a subscription agreement with Derech
Eretz and provided it with means of payment for the collection of payment for use of the
Road (these users are entitled to discounted usage rates, in accordance with the regulations
regulated by virtue of the Toll Road Law, as the same is defined below).
In 2004, 2005 and 2006, the proportion of vehicles that traveled the Road and that belong
to the random customers group, out of the total number of customers who used the Road
in the said years, was 74.62%, 63.94% and 63.22%, respectively.
1.19.7
Most of the marketing operations are conducted by the Operator and through service and
subscription points, located throughout central Israel. In addition, Derech Eretz makes
use of the media for marketing purposes, including television, radio and the printed press.
Derech Eretz and the Operator operate websites containing information on the Road and
all services offered by Derech Eretz.
1.19.8
Intangible assets
As provided for in the Concession Agreement, Derech Eretz holds a concession in respect
to the construction, operation and maintenance of the Road as a Toll Road, including toll
collections, for the Concession Period, as specified in Section 1.19.3.1 above. .
1.19.9
Human capital
As of December 31, 2006, Derech Eretz had 24 employees (compared with 23 employees
as of December 31, 2006 and 22 employees as of December 31, 2004). Derech Eretz
customarily enters into personal contracts with its employees.
1.19.10
Derech Eretz's principal supplier is the Operator that functions as the operating and
maintenance contractor for the Road.
1.19.11
Working capital
The terms of payment to suppliers are generally 60 days from the end of the calendar
month on which the relevant transaction was made, other than terms of payment to the
Operator, that are on a monthly basis (at the beginning of every month, in advance). The
payment dates for services rendered by Derech Eretz are as set in the law, regulations and
the Concession Agreement.
307
Customer credit ranges on average between 45 and 60 days from the date of toll road
usage in respect to which the customer is charged.
1.19.12
Financing
1.19.12.1 Derech Eretz finances it operations through bonds issued to financial institutions in North
America, and through loans granted to Derech Eretz by financial institutions and
centralized by Bank Hapoalim Ltd.
1.19.12.2 The loans granted to Derech Eretz are usually linked to the index and are long term dollar
loans, bearing fixed interest. However, interest on most linked shekel loans will be redetermined in 2014, based on changes in long term government bonds. Derech Eretz's
other income will be in part fully linked to the index, while for the remainder no linkage
mechanisms have been defined.
1.19.12.3 The inflation rate in the Concession Period affect the volume of Derech Eretz's real
income, since the Concession Agreement sets periodic adjustment mechanisms.
1.19.12.4 Derech Eretz has a substantial volume of current assets balance, invested mostly in
unlinked, short term shekel deposits, and at times also in linked shekel deposits, short
term loans, and linked bonds. A small part of the said balance is invested in short term
dollar deposits.
1.19.13
Taxation
1.19.13.1 On August 29, 2004, Derech Eretz received from the Income Tax Authorities
confirmation to the effect, that should Derech Eretz comply with the conditions set below,
it will report for tax purposes (in the adjustment reports for tax purposes) its taxable
income in accordance with the method reflected in the preliminary confirmations it
received in the past, i.e. in accordance with "traditional accounting" (i.e. "investment in
leased real estate" that is considered a "fixed asset", impairment of the investment in
leased real estate in accordance with the income tax rules (deduction of lease fees (and
deduction of depreciation in respect to the said impairment, deduction of financing
expenses (subject to Section 17(1) to the Income Tax Ordinance). The terms for the said
confirmation are receipt of the preliminary approval of the Securities Authority to the
implementation of the new accounting treatment and an undertaking by Derech Eretz to
implement the same tax policy throughout the project period.
Derech Eretz will be permitted to distribute dividend to its shareholders, in accordance
with the original cash flow model of the project, provided that this dividend is distributed
out of taxable income.
1.19.13.2 In 2004, Derech Eretz had a carry-forward loss in the approximate amount of NIS 197
million. Derech Eretz recorded a tax asset in the approximate amount of NIS 59 million,
in accordance with the management's estimate that realization of these loses is expected.
308
In 2005, Derech Eretz had a carry-forward loss in the approximate amount of NIS 789
The consolidated Derech Eretz had a carry-forward loss in the approximate amount of
NIS 1.9 million. The consolidated Derech Eretz recorded a tax asset in the approximate
amount of NIS 0.5 million.
In 2006, Derech Eretz had a carry-forward loss in the approximate amount of NIS 1,079
The consolidated Derech Eretz had a carry-forward loss in the approximate amount of
NIS 2 million. The consolidated Derech Eretz recorded a tax asset in the approximate
amount of NIS 0.7 million.
1.19.13.3 Derech Eretz is subject to the Income Tax (Inflation Adjustments) Law-1985.
1.19.13.4 Derech Eretz has not been assessed for tax purposes since its founding.
1.19.14
Restrictions and regulation of the company's business
Derech Eretz operates in accordance with provisions of the Concession Agreement that
was signed with the State. The competent authority had been agreed upon and qualified
by the State to implement and supervise the Project and to supervise its construction, toll
collection, and compliance with Derech Eretz's remaining undertakings as provided for in
the Concession Agreement. Other aspects in respect to the construction and operation of
the Project are regulated in the Toll Road Law (Cross Israel Highway)-1995 ("the Toll
Road Law"), and its regulations. Furthermore, the Cross Israel Highway Law-1994
regulates various aspects of land acquisition as required for the Road and expropriation of
the same by the State.
1.19.15
Legal proceedings involving Derech Eretz
On June 4, 2006, a claim was filed against Derech Eretz, as well as an application for
certification of the same as a class action, in the District Court in Tel Aviv-Jaffa, in the
amount of NIS 12 million. The claim involves duplicate charges for towed vehicles, and
alleged misleading by Derech Eretz of the owners of the towed vehicles. The parties are
currently in the advanced stage of settlement negotiations. According to the settlement
being negotiated, Derech Eretz will undertake to repay the duplicate charges, if any, as
well as to notify the owners of the towed vehicles to that effect in their invoices.
The amount Derech Eretz will be required to pay in frame of the forming settlement is
immaterial.
1.19.16
Developments for the forthcoming year
In the forthcoming year, several alterations are scheduled to be made to the Toll Road
(beyond the Derech Eretz's original statement of works), in frame of Derech Eretz's
309
undertaking to widen the Road, should the varied tests provided for in the Concession
Agreement be conducted successfully. The said widening works will be financed from
internal sources accumulated in Derech Eretz.
The widening works scheduled to take place in the forthcoming year are specified below:
1.19.16.1 Widening of the Nesharim interchange- as of the date of the Periodic Report, Derech
Eretz is in the advanced planning stages towards the said alteration of the interchange, in
order to enable connection of Road 431 to the Toll Road.
1.19.16.2 Widening Road 3 intersection in the vicinity of the Sorek interchange, within the blue
line limits of the toll road (the boundary of the statutory plan), as the same is defined in
the Concession Agreement – the State, has commenced the said widening works of Road
3 through the Israel National Roads Company (Ma'atz). Following the instruction of the
competent authority, Derech Eretz commenced the widening works. Derech Eretz will
comply with the said instruction of the competent authority, although it claims that the
widening tests for the interchange, in respect to traffic volume, have not been conducted
yet. In respect to this matter, Derech Eretz's management estimates that the possibility
exists that, should the parties fail to reach an agreement, they will refer the matter to
arbitration to settle the related disagreements.
1.19.16.3 Construction of Section 18 – for additional details, see Section 1.19.3.10 above.
1.19.16.4 Construction of Sections 19 and 20 –see Section 1.19.3.11 above.
1.20
Vash Telecanal Ltd.
1.20.1
General
Vash Telecanal Ltd. ("Vash Telecanal") was incorporated in Israel in May 2001, as a
private company In accordance with the Companies Law. In November 2001, Vash
Telecanal received from the Ministry of Communication a special license ("the License")
to broadcast a dedicated television channel in the Russian language ( “Channel 9”) in
accordance with the provision of Article 6LD1 to the Communication Law (Bezeq and
Broadcasts)-1982 ("the Communication Law") on Israel's cable and satellite networks.
Under approval of the Company's General Assembly of December 2003, Memorand
Management (1998) Ltd. ("Memorand Management"), a company controlled by Mr.
Lev Leviev, the controlling shareholder of the Company, purchased about half of the
Company's holdings in Vash Telecanal at that time (about 84.25% of the issued capital
and voting rights in Vash Telecanal). As of the date of the Periodic Report, the material
shareholders in Vash Telecanal are the Company (directly and indirectly) and Memorand
Management1, that hold each about 46.2% of the issued capital and voting rights in Vash
1
Memorand Management's holdings are the holdings purchased from the Company, as aforesaid, as well as
additional shares allotted to it at a later stage. Concurrent to a similar allotment to the Company, due to
dilution of other shareholders that failed to submit financing and/or guarantees to Vash Telecanal.
310
Telecanal (neutralizing holdings of about 2% of the issued capital, that are designated for
employees, and the allotment of which is in dispute). According to an agreement with
other shareholders in Vash Telecanal, the Company and Memorand Management were
each granted the voting right in respect to shares representing, as of the date of the
Periodic Report, about 1% of the voting rights in Vash Telecanal (neutralizing employee
holdings in dispute). In addition, an agreement dated May 2001 (as amended in May 2001
and in December 2004) regulates the relationship between the Company, Memorand
Management (that replaced the Company in respect to half of its holdings) and an
additional shareholder that holds about 2.4% of Vash Telecanal's capital (neutralizing
employee holdings in dispute). In addition to the right of first refusal granted to the
shareholders of Vash Telecanal, the additional shareholder was granted, subject to set
conditions, the tag along right in respect to sale of the shares by the Company and/or
Memorand Management, and bring along conditions were set under which the said
shareholders will be required to sell their holdings in frame of a forced sale.
1.20.2
Financial information about Vash Telecanal's segment of operations
Vash Telecanal has one segment of operations, the production and broadcasting of a
dedicated television channel in the Russian language.
Details out of Vash Telecanal's financial statements are provided below (in NIS
thousands):
The year 2004
The year 2005
The year 2006
Income
(*)36,910
(*)50,169
58,986
Expenses
(*)66,700
(*)63,280
70,073
(*)(29,790)
(*) (13,111)
(11,087)
29,086
33,562
34,367
Operating profit (loss)
Total assets as of
December 31
(*) Reclassified
In respect to the material changes that occurred in 2005, it should be noted that the said
decline in loss was mainly due to two factors: an approximately 37% increase in Vash
Telecanal's sales, that is due, inter alia, to Vash Telecanal's successful engagements with
Israeli advertisers and advertising agencies that had not advertised in Channel 9 in the
past, as well as the increased ratings of Channel 9; and an approximately 11% decline in
Vash Telecanal's operating expenses, due to the continued reorganization process, and in
311
particular the reduction of excess workforce and improvement of Vash Telecanal's terms
in contracts with its principal suppliers.
1.20.3
Additional information about Vash Telecanal's segment of operations
Vash Telecanal engages in the production and broadcasting of Channel 9, that is marketed
under the brand name “Channel 9 – Israel Plus”, and in the sale of air time to advertisers,
for the purpose of broadcasting commercials. Channel 9 commenced broadcasting in
November 2002, and is broadcast on channel 9 of the multi-channel television networks of
the holders of general cable broadcasts licenses ("the Cable Companies") and the holder
of the Israeli satellite broadcasts license ("the Satellite Company"). Channel 9
productions include original content produced by Vash Telecanal Ltd. or on its behalf,
broadcasting content purchased from sources in Israel and overseas, and packaging and
post-production performed by Vash Telecanal or on its behalf.
The business model according to which Vash Telecanal Ltd. operates, in accordance with
its license and the provisions of the law that regulate its operations, is that of a
commercial channel financed mainly from the sale of air time for commercials. It should
be clarified, that the Satellite and Cable companies are required to include Channel 9 in
their basic subscriber packages without charging additional subscriber fees, however Vash
Telecanal Ltd. is not entitled to any consideration from the Satellite and Cable companies
in respect to Channel 9's broadcasts.
1.20.4
Licensing and supervision restrictions
The Israeli communication sector in general, and the television broadcasting industry in
which Vash Telecanal operates in particular, are characterized by a high level of
regulation. The communication laws set, that television broadcasts shall be transmitted to
the public in Israel only subject to a license (or concession) granted by the competent
authority - the Cable and Satellite Broadcasting Council ("the Council").
Vash Telecanal's license is in effect of a period of 10 years. The license term may be
extended by 6 additional years. The Council is authorized to amend the terms of the
license, as well as to limit, condition or cancel the license entirely, should it be breached
as provided for in the Communication Law. Vash Telecanal submitted bank guarantees in
the approximate amount of NIS 3 million, to assure compliance with the license terms.
The license regulates central aspects in the operation of the Channel, including:
restrictions in respect to transfer of the license, restrictions in respect to holdings in a
license holder, and engagements with related parties. The license authorizes the Minister
of Communications to set the royalties payable by the licensee to the State (as of the date
of the Periodic Report – such royalties have not yet been set). In addition, the terms of
Vash Telecanal license and the relevant provisions of the law impose on Vash Telecanal
duties in respect to the broadcasting language (Russian in talking, dubbing and subtitles) ,
312
broadcasting content (in accordance with the variety specified in the license), local
production quotas, broadcasting ethics, limitations on commercials broadcast on the
channel etc. In addition, Vash Telecanal is required to broadcast daily news broadcasts,
and to comply with the original production quotas.
The Communication Law provides that the Cable Companies will be entitled to charge a
"reasonable price" (cost plus reasonable profit) for transmitting the broadcasts of the
holder of a special license for cable broadcasts on their networks, and that in the absence
of an agreement between the parties about this price, the Minster of Communications shall
rule on the matter within a year of a relevant application. A similar instruction does not
exist in respect to the Satellite Company, but to the best of the Company's knowledge, the
Satellite Company claims that it is also entitled to a reasonable consideration in respect to
use of its infrastructure. Vash Telecanal and the Cables and Satellite Companies disagree
in respect to the Cables and Satellite Companies' entitlement to use fees as aforesaid, as
well as in respect to the rates of the same, should the said entitlement exist. According to
the ruling of the Minster of Communications in respect to the first two years of Channel
9's operations, Vash Telecanal made payments to the Cable companies and deposited
with the Ministry of Communication bank guarantees on account of the payments (that
have expired and have not been renewed). To the best of the company's knowledge, the
Ministry of Communication informed the Cable Companies that they are prohibited from
impeding in any way the transmission of Channel 9's broadcasts on their networks, despite
the said disagreement. In addition, To the best of the Company's knowledge, as of the
date of the Periodic Report, proceedings are being conducted in the Ministry of
Communication towards a decision on the issue of usage fees. Concurrently, a private
legislation initiative exists, designed to exempt Vash Telecanal from paying any usage
fees to the Cable and Satellite Companies.
In this context it should be noted, that in November 2006 the Satellite Company filed a
claim against Vash Telecanal, in the nominal amount of approximately NIS 1.72 million,
in respect to the said payment of usage fees, and is withholding in addition an amount
owed by it as a client (through an advertising agency) in respect to advertising air time,
that amounts, as of the date of the Periodic Report, to approximately NIS 1.2 million. The
Cable Companies are withholding an amount owed by them as clients, that amounts, as of
the date of the Periodic Report, to approximately NIS 2.6 million.
1.20.5
Vash Telecanal's principal product is the Channel 9 broadcasts. Vash Telecanal's main
source of income is broadcasting time for commercials. In addition, Vash Telecanal sells
licenses for the broadcasting of an international version of Channel 9, as well as for the
313
Channel's programs, to distributors and/or broadcasting platforms outside Israel1, as well
as broadcasting rights for the content of Channel 9 and/or for Channel 9 in the cellular
media.
1.20.6
Customers and marketing
The marketing operations of the Russian channel focuses on two principal target publics:
the viewer public and the advertising and advertising agency public. Vash Telecanal
operates opposite two principal types of clients:
advertising agencies that represent
various clients and companies that purchase directly advertising air time on Channel 9.
As is customary in the industry, Vash Telecanal enters into master agreements with clients
and advertising agencies, that define the sales volume and the commissions that the
advertising agencies are entitled to (at the rate set in accordance with the volume of sales).
Accordingly, Vash Telecanal's backlog refers to a very short period, of several weeks.
Vash Telecanal's revenues from the Cables and Satellite Companies in the years 2004,
2005 and 2006 represented approximately 9%, 7% and 5% of Vash Telecanal's total
revenues, respectively.
1.20.7
Competition
In general, air time for a commercial is sold in considering the viewer ratings of a
television channel. Vash Telecanal's direct competitors are the other commercial public
broadcasting channels in Israel, that sell air time to Israeli advertisers: Channel 2
(including its two concessionaires, Reshet and Keshet), Channel 10 (Israel 10); and
Channel 24 (the music channel). To the best of Vash Telecanal’s knowledge, as of the
date of the Periodic Report, Channel 2 controls over half of the television commercial
market in Israel. In addition, Vash Telecanal competes for viewer ratings (that could
affect Vash Telecanal's revenues) against the channels that broadcast on cables and
satellite, and
in particular foreign Russian-speaking channels, as well as the movie
channels of Israeli broadcasters, that broadcast movies that are dubbed into Russian.
Until recently, several foreign Russian-speaking channels (jointly – "the Foreign
Channels"), that in practice sold a considerable portion of their advertising air time to
Israeli advertisers, constituted competition also in respect to the sale of advertisement air
time. In May 2006 the High Court of Justice granted Vash Telecanal's petition in respect
to the Foreign Channels, and ruled that the broadcasting of an Israeli commercial does not
comply with the provisions of the Communication Law. As a result, Israeli commercials
are no longer allowed on the Foreign Channels. To the best of the Company’s knowledge,
one of the Foreign Channels applied to the Minister of Communication for a commercial
broadcasting permit, and the High Court of Justice has before it additional appeals,
1
The distributors or the local offices are responsible for licensing and regulation aspects of broadcasts in the
relevant locations, pursuant to the terms provided in the contractual arrangements between the parties
314
involving the broadcasting of commercials on the Foreign Channels and/or on similar
channels.
1.20.8
Suppliers
Vash Telecanal has no dependence on suppliers or marketers, subject to the said below:
As provided for in the terms of the license, Vash Telecanal is required to acquire its news
broadcasts from an entity that is authorized to produce and broadcast news in accordance
with Israeli law. Vash Telecanal has entered into an agreement with the Israeli News
Company Ltd. ("the News Company"), in effect until November 2008. The small number
of entities that are allowed by law to produce and broadcast news in Israel, contributes to
increasing Vash Telecanal's dependence on the News Company.
Vash Telecanal has entered into an agreement with a third party for studio and office
services for Channel 9 in Neveh Ilan, effective until November 2014 (subject to Vash
Telecanal's right to end the agreement in November 2008). Vash Telecanal estimates, that
despite alternatives available in the market, its investments in the studio and offices in
Neveh Ilan and the costs entailed in the move, contribute to its increased dependence in
the said third party.
The position of the Ministry of Communication is, that Vash Telecanal may not transmit
its broadcasts directly to the viewers' homes by satellite or terrestrial broadcasts, see
Section 1.20.11 (E) below. Accordingly, technically and practically, Vash Telecanal
depends on the Cable and Satellite Companies for transmission of Channel 9's broadcasts
to subscribers. For details of a disagreement between Vash Telecanal and the Cable and
Satellite Companies (including withholding of money and a claim that was filed, see
Section 1.20.4 above).
1.20.9
Working capital
On average, Vash Telecanal pays its suppliers 60 days from the end of the calendar month
on which the relevant transaction was made, and it grants its clients similar credit. Vash
Telecanal has a working capital deficit amounting, as of December 31, 2004, as of
December 31, 2005, and as of December 31, 2006, to approximately NIS 5.45 million,
NIS 45.7 million, and NIS 61.3 million, respectively. The said working capital deficit is
due in essence to losses that had been financed with bank credit. To the best of the
Company's knowledge, Vash Telecanal is striving to increase the supplier credit period
and to reduce the customer credit period, in order to reduce its working capital deficit to
the extent possible.
1.20.10
Financing
As of the date of the Periodic Report, Vash Telecanal has a credit facility in Mizrahi
Tefahot Bank Ltd. ("Bank Hamizrahi") at a total scope of approximately NIS 83.5
million. The said credit facility is secured by a continuing guarantee, limited in amount to
315
up to NIS 90 million (with linkage and interest), that was provided by the Company and
Mr. Lev Leviev (including through Memorand Management), the controlling shareholder
in the Company, jointly and severally, for all undertakings of Vash Telecanal towards
Bank Hamizrahi, as well as a floating lien on Vash Telecanal's assets. As of the date of
the Periodic Report, the utilized balance of the said credit facility was approximately NIS
80 million.
Additional details in respect to financing placed at Vash Telecanal's disposal by interested
parties (in NIS thousands):
Interested
party
Loan/
capital
note
The
Company
Capital
notes
Loan
Memorand
Management
Capital
notes
Loan
1.20.11
The year 2004
The year 2005
The year 2006
Balance as of
the Periodic
Report date
22,037
22,037
22,037
9,037
9,037
9,037
9,037
-
-
2,000
-
-
-
-
22,037
22,037
22,037
9,037
9,037
9,037
9,037
-
-
2,000
-
-
-
-
Risk factors that are unique to Vash Telecanal's operations
Vash Telecanal's operations are affected, inter alia, by the following risk factors: (a)
exposure to changes in the regulatory regime, including legislation amendments and/or
changes in the license terms and/or cancellation of the license; (b) the absence of
exclusivity and competition by the Foreign Channels; (c) dependence on the Cable and
Satellite Companies, see also Section 1.20.8 above; (d) payments in respect to
broadcasting infrastructure. In this context it should be clarified, that should the Cable and
Satellite Companies' position be granted, Vash Telecanal's costs in respect to usage of
their broadcasting infrastructures may increase substantially; (e) consolidation of the
distribution systems of terrestrial channels1 could lead to a decline in the rate of users of
the Cable and Satellite Companies, and indirectly in the rate of Channel 9's viewers.
1.21
Tadiran Telecom Ltd.
1.21.1
General
As of December 31, 2006, the Company held indirectly2 approximately 21.47% of the
issued capital and voting rights in Tadiran Telecom Ltd. ("Tadiran Telecom"), a private
1
2
Channels that are designed to be received without depending on the Cable and Satellite Companies'
infrastructures: Channel 1, Channel 2, Channel 33, The Knesset Channel, and in the future also Channel 10.
The Company holds Tadiran through the subsidiary (50.1%), Africa Israel Communication Ltd. ("Africa
Communications"). The remaining shares in Africa Communication (49.9%) are held by Memorand
316
company that was incorporated in August 2001 in accordance with the Companies Law.
The said holdings due not take into account options that represent 10% of Tadiran
Telecom's issued capital, that Tadiran Telecom intends to allot to senior employees.
1.21.2
Tadiran Telecom's operations
Tadiran engages, directly and through its subsidiaries, in the design, development,
production and marketing of generalized communication solutions for businesses (such as
digital switchboards, IP-based communication servers, CRM software, organizational
communication systems, switchboard interfaces, smart phones etc.). Tadiran Telecom’s
development center is located in Petach Tikva. It operates mainly in Israel, the United
States and Russia (about 76% to 78% of its revenues in the years 2004 to 2006), as well as
in other countries. Until 2004, Tadiran Telecom executed also the services and
maintenance operations in respect to its products in Israel,
that were sold by it to
distributors and end customers. The said operations were sold in 2004 to a third party,
that serves as the exclusive distributors for Tadiran Telecom's products in Israel ("the
Buyer").1
1.21.3
Tadiran Telecom's market
The market that Tadiran Telecom operates in is characterized by constant technological
development, and intense competition. The following companies can be counted among
Tadiran Telecom's principal competitors: Siemens, Alcatel, Avaya, Nortel, Ericsson,
Cisco; Mitel, Genisys.
1.21.4
Employees
As of December 31, 2006, Tadiran Telecom employs 182 people in Israel (including 10
employees of manpower companies) according to the following breakdown: 14
management employees; 78 development and engineering employees; 64 operation
employees; 27 marketing and sales employees; in addition, subsidiaries controlled by
Tadiran Telecom employed 62 people in the United States and 28 people in China.
Tadiran Telecom employees who are employed under a collective labor agreement, and
who had been permanent employees on December 21,1998, and whose name appears in
Schedule B to the collective labor agreement dated December 21,1998, are entitled – in
the event that their employee-employer relationship with the Company shall end until
March 31,2012, under circumstances of dismissals or under circumstances where the
definition "injured employee" as the meaning set against it in the said collective labor
agreement
shall apply to the same – to special retirement terms, in the increased
severance pay track or in the early retirement track at the expense of Tadiran Telecom, for
Management (1998) Ltd., a company owned and controlled by Mr. Lev Leviev, the controlling shareholders
of the Company.
1
Following the said sale of operations, 111 Tadiran Telecom employees became the Buyer's employees.
317
a period of 10 years before the age of 65. In addition, employees whose name appears in
Schedule C to the collective labor agreement dated December 21, 1998, are entitled to
special retirement terms in the early retirement track, also in the event that they retire their
job in Tadiran Telecom of their own free will. The security net agreements are secured by
current second degree lien on Tadiran Telecom's assets (up to approximately USD 5.5
million) as well as by a bank guarantee in the total amount of approximately USD 4.9
million.
1.21.5
Financing
Tadiran Telecom finances its operations mainly through bank credit. It was granted by
Bank Leumi a long term loan in the amount of USD 11 million
("the Financing
Agreement"), as well as short term credit. The credit balance in accordance with the
Financing Agreement (payable during 2007) and the short term credit balance amounted
as of December 31, 2006 to approximately USD 2.75 million, and approximately USD 7
million, respectively. The said credit is secured, inter alia, by lien in favor of Bank
Leumi. In addition, according to the Financing Agreement, Tadiran Telecom undertook
to comply at all times with the financial ratios as agreed on by Tadiran Telecom and the
bank from time to time, as well as to avoid granting (itself or though subsidiaries)
securities to third parties. As of December 31, 2006, Tadiran Telecom did not comply
with the set financial ratios, and intends to apply to the Bank for a waiver. Tadiran
Telecom estimates, that it will not encounter any difficulties in obtaining the said waiver.
In this respect, it should be clarified that the credit balance in accordance with the
Financing Agreement is stated (as current maturities) in the current liabilities line item.
For details of guarantees and shareholders' loans, see also this Section below.
1.21.6
Risk factors unique to Tadiran Telecom's operations
Tadiran Telecom's operations are affected, inter alia, by the following risk factors: (a)
Tadiran Telecom is dependant on a principal supplier who serves as the head contractor
for the placement and assembly of electronic components; (b) when the only manufacturer
of a specific component announces discontinuation of its manufacturing, Tadiran Telecom
is required to stock up on the inventories required throughout the product's lifetime, until
an alternative solution is found.
1.21.7
Guarantees and shareholders' loans
As of December 31, 2006, shareholders' loans granted to Tadiran Telecom amount to
approximately USD 1 million, of which Africa Communication granted to Tadiran
Telecom shareholders' loans in the total amount of approximately USD 756 thousand.
Subsequent to the balance sheet date, interested parties in Tadiran Telecom granted
additional loans, in the total amount of approximately USD 1 million, of which Africa
318
Communication granted to Tadiran Telecom shareholders' loans in the total amount of
approximately USD 750 thousand.
In addition, as of the date of the Periodic Report, the Company and Mr. Lev Leviev are
guarantors for Tadiran Telecom's debts in Bank Leumi, in limited guarantees of USD
3.875 million. Another interested party in Tadiran Telecom is a guarantor as aforesaid, for
USD 250 thousand.
1.21.8
Principal data out of Tadiran Telecom's financial statements
Principal data out of Tadiran Telecom's financial statements are provided below (in NIS
thousands):
2004
2005
2006
Income
265,470
207,136
231,489
Expenses
281,869
247,274
241,920
Operating profit (loss)
Total assets as of
December 31
( 16,399)
(40,138)
(10,431)
244,451
190,7351
171,675
1.22.
The Tel Aviv Light Train project
1.22.1
The State of Israel published a tender for the construction and operation of the Red Line
for the light rail transit project in Tel Aviv ("the Red Line") and its vicinity ("the
Tender"). The Tender that was published requested participants to bid for the
construction of the light rail in frame of a BOT venture for the construction and operation
of the Tel Aviv light rail, in accordance with a concession that shall be granted by the
State to the concessionaire for a period of 32 years ("the Concession Agreement"). The
Concession Agreement set that the construction works will continue for 6 years,
and the
operation and maintenance works will continue 26 years, commencing on the date on
which the Red Line is approved by the State. As provided for in the Concession
Agreement, at the end of the 32 years during which the Line will be operated by the
concessionaire, the same shall transfer the Line to the State. The route of the train is
planned to be 22 kilometers long, from the central station in Petach Tikva, through Bnei
Brak, Tamat Gan, Tel Aviv-Yafo, and Bat Yam. The Red Line from Petach Tikva to
Bnei Brak is planned as an above-ground line, and from Bnei Brak to the center of Tel
Aviv, i.e. an 11 kilometers long section, the line is planned as an underground line,
traveling through an underground tunnel. For additional details about the light rail project,
see Section 1.11.6.4 (C) above.
1
In August 2005, Tadiran Telecom sold in a sale & leaseback transaction real estate in the United States, to a
company owned by Africa communication (75%) and another interested party in Tadiran Telecom.
319
1.22.2
The Company bid in the light rail tender in frame of Metropolitan Transportation
Solutions Ltd. ("the Concessionaire" or the "MTS Group"). The holdings structure in the
Concessionaire is as follows: the Company – 20%; Egged – 20%; Siemens – 20%; China
Civil Engineering Construction Corporation ("CCECC") – 20%; Soares da Costa
ConstruÇão, SA ("SDC") – 20%. In addition, the MTS group includes HTM
Personenvervoer n.v. of Holland, as an operating subcontractor.
1.22.3
A set in the agreement between the companies of the Concessionaire, the Company (or its
subsidiary) may execute for the Concessionaire construction works, the total scope of
which is estimated at hundreds of USD millions. In this frame,
the Company has the
right to constitute 40% of a joint venture established jointly with CCECC (30%) and SDC
(30%), that, in consortium with Siemens, will constitute the construction contractor of the
project. The construction period will be 5 years, commencing on the date of
commencement of the works. See also Section 1.11.6.4 (C) above.
1.22.4
Contention in the Tender focuses mainly on the construction grant amount to be paid by
the client, in installments. The construction allowance offered by the MTS Group in frame
of the tender, amounted to approximately NIS 7.1 billion. The MTS Group estimates that
the project will cost approximately NIS 10 billion.
1.22.5
On
December 31, 2006, the State of Israel announced the Concessionaire to be the
winner in the Tender. As of the date of the Periodic Report, the Concessionaire is
preparing the consolidated version of the Concession Agreement, hat combines in it the
Concessionaire's original offer and amendments made in the bid until the win, towards its
signing. In addition, in the Tender documents the Concessionaire undertook to obtain
various permits in respect to its constructing the Red Line.
In this frame, the
Concessionaire appealed to the Antitrust Commissioner for its approval of the
Concessionaire operations, and the Concessionaire is now awaiting this approval.
1.22.6
To the best of the Company's knowledge, on February 14, 2007 the group that competed
with the Concessionaire ("Metro-Rail") filed an administrative appeal with the District
Court in Tel Aviv, convening as the Administrative Court, in which it demands that the
State and the Concessionaire be prohibited shall be from entering into an agreement for
the execution of the Red Line project1. In addition, Metro-Rail demands that it be
announced winner of the Tender.
1
To the best of the Company's knowledge, this administrative appeal was filed following correspondence
between Metro-Rail and the tender committee in respect to the demand to disqualify the Concessionaire, and
after on January 18, 2007 Metro-Rail appealed to the District Court in Tel Aviv-Yaffo, convening as the
Administrative Court, to prohibit the State and the Concessionaire from entering into an agreement, and to
direct the State to submit various documents at its disposal, so that it may prepare to file an administrative
appeal. The District Court refused to prohibit the engagement between the State and the Concessionaire, and
to the best of the Company's knowledge, the State forwarded most of the documents in respect to the
Concessionaire's bid to Metro-Rail.
320
1.22.6.1
In its appeal, Metro-Rail raises 4 principal claims, as follows: (a) 4 out of 5 of the bank
guarantees submitted by the Concessionaire (each for NIS 10 million, as bid guarantee)
are stricken with material faults, in respect to which the Concessionaire's bid should be
disqualified; (b) the operating agreement submitted by the Concessionaire, as part of the
Tender documents, does not comply with the terms of the Tender. Metro-Rail claims, that
the engagement agreement with a sub-contractor for operation of the Red Line, that was
submitted by the Concessionaire, does not comply with the Tender requirements; (c) the
digging method suggested by the Concessionaire endangers the underground water for the
coastal plane, and could result in land collapse and damage to structures. According to this
claim, the excavation method suggested by the Concessionaire goes deeper than MetroRail's digging method, and is more dangerous as a result1; (d) The passenger cars
suggested by the Concessionaire do not comply with the Tender requirements. According
to this claim, the passenger cars suggested by the Concessionaire are an improvement on
passenger cars that had been operated in Europe and that had failed. Metro-Rail claims,
that the trains in the structure suggested have no past experience, and therefore do not
comply with the Tender terms. Moreover, the original trains on which the
Concessionaire's bid is based are trains proven to be a failure, another reason to disqualify
the Concessionaire's bid.
1.22.6.2
On March 20, 2007, the respondents submitted their responses to the appeal. The
Concessionaire claims are as follows: (a) there are no faults in the Concessionaire's
guarantees. The deviations from the guarantees are in accordance with the explicit
guidance of the State (and in accordance with the discretion granted to the State in this
Tender, to amend the phrasing of the Tender). Even if it shall be determined that
deviations from the guarantee phrasing exists, these are technical deviations, and they do
not have inherent in them concerns that the principle of equality will be impeded. Apart
from the aforesaid, Metro-Rail's guarantee is stricken with faults, so that should MetroRail's claims in respect to the Concessionaire be accepted, the court will have to reach a
similar conclusion in assessing Metro-Rail's guarantee, and should therefore disqualify the
entire Tender. In respect to the claims that one of the guarantees had not been submitted
by a commercial bank, the Concessionaire claims that this claim is baseless, since neither
the tender documents nor the law provide a definition for "commercial bank", and the
bank in question is rated AAA and had been approved by the State in a preliminary
1
As for these claims by Metro-Rail, it should be noted that to the best of the Company's knowledge, the State
had approached the competent authorities, and having received confirmation from the Water Commissioner
that the Red Line can be dug in the digging method suggested by the Concessionaire, the State continued the
process of selecting the Tender winner. As aforesaid, on December 31, 2006 the State confirmed that the
Concessionaire is the winner of the Tender, having received higher marks than Metro-Rail both in the
engineering parameter and in the financial parameter.
321
proceeding; (b) the subcontractor engaged by the Concessionaire in respect to the said
operation of the Red Line, undertook to provide the Concessionaire with the know how,
experience and workforce required to operate the project. Furthermore, this subcontractor
is investing 20% of the designated venture; (c) In respect to the digging method, MetroRail's claims cannot be heard such a long time after its having been aware of them.
Furthermore, the subject of digging is one that the court will not interfere in the expertise
of which. Beyond that, the claims in respect to harming the water are baseless, as are the
claims that the Concessionaire's digging method is more dangerous; (d) regarding the
matter of the passenger cars, Metro-Rail's claims have been significantly delayed and
should therefore not be accepted. In addition, the content of the claims should also be
rejected, since there is no basis to the claims in respect to the shortcomings and the lack of
experience of the trains suggested by the Concessionaire. The Concessionaire has
substantial experience in this field, and the technology offered by it is ideal for the
requirements of the Tender; (e) Metro-Rail's Articles have flaws in it that required it to be
disqualified; (f) the balance of convenience is against Metro-Rail, since issuance of an
injunction that will prohibit the State and the Concessionaire from entering into an
agreement will result in substantial damage, while opposite it stands an appeal that has
only a small probability of being accepted by the court.
1.23
Financing
1.23.1
General
As a rule, the Group finances its current operations through its independent sources, bank
credit from financial institutions, and through bond and CDs issued by the Company and
other Group companies.
The following table presents details on the bonds issued by the Company (and by its
subsidiary, Africa International Investments (1997) Ltd), outstanding as at the date of the
Periodic Report.
322
Bonds issued by the Company until December 31, 2006
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
Percentage
interest
Linkage
Number of
installments
in which
interest is
repayable
A
Nov 2003
100
100
5.25
CPI
1
Nov 6,
2008
Repayable
quarterly
starting
November
2003
B
Nov 2003
100
100
5.15
CPI
1
Nov 6
2008
C
Nov 20031
1.7
1.7
5.25
CPI
1
D
Nov 20032
30.8
30.8
5.15
CPI
1
Series
1
2
Date of last
repayment
Dates of
payment of
interest
Outstanding
(NIS
Millions)
including
Linkage
Midrug
Ma'alot
rating
57.8
Aa2
AA\Stable
Repayable
quarterly
starting
November
2003
30.6
Aa2
AA
Nov 6
2008
Repayable
quarterly
starting
November
2003
1.7
Aa2
AA
Nov 6
2008
Repayable
annually
starting
November
2003
31.8
Aa2
AA
Bonds (Series C) were allocated in view of the application of bondholders (Series A) to exercise options (Series A), and hold bonds (Series A) in their possession.
Bonds (Series D) allocated in view of the application of bondholders (Series B) to exercise options (Series B), and hold bonds (Series B) in their possession.
323
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
Percentage
interest
Linkage
Number of
installments
in which
interest is
repayable
E
Mar 2005
111
111
4.00
CPI
1
Mar 8
2007
Repayable
semiannually
starting
March
2005
F
May 2005
157
157
3.55
CPI
1
May 26
2008
G
July 2005
166.3
166.3
3.65
CPI
1
H
Aug 2005
Aug 2005
Sep 2005
Sep 2005
100
109.8
141.7
48.5
100
109.8
141.7
48.5
3.35
CPI
I
Nov 2005
Dec 2005
Dec 2005
Jan 2006
213
110
105.1
71.9
213
110
105.1
71.9
4.20
J
Dec 2005
140
140
5.40
Series
Date of last
repayment
Dates of
payment of
interest
Outstanding
(NIS
millions)
including
linkage
Midrug
Ma'alot
rating
114.2
Aa2
AA
Repayable
quarterly
starting
May 2005
160.4
Aa2
AA
July 11,
2008
Quarterly
starting
July 2005
169.5
Aa2
AA
1
Aug 15
2007
Repayable
quarterly
starting
August
2005
407.1
Aa2
AA\Stable
CPI
1
Nov 10
2009
Repayable
quarterly
starting
November
2005
502
Aa2
AA\Stable
CPI
1
Dec 19
Repayable
500
Aa2
AA\Stable
324
Mar 2006
360
360
Percentage
interest
Linkage
Number of
installments
in which
interest is
repayable
215.5
200
84.5
5.10
CPI
1
Mar 27
2011
394.5
394.5
5.201
CPI
1
Sep 6
2010
Sep 206
155.5
155.5
5.352
CPI
1
Dec 2006
560
560
5.401
CPI
5 annual
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
K
Mar 2006
May 2006
Jul 2006
215.5
200
84.5
L
Sep 2006
M
N
Series
2012
Date of last
repayment
quarterly
starting
December
2005
Dates of
payment of
interest
Outstanding
(NIS
millions)
including
linkage
Midrug
Ma'alot
rating
500
Aa2
AA\Stable
Repayable
quarterly
starting
September
2003
394.5
Aa2
AA\Stable
Sep 6
2015
Repayable
quarterly
starting
September
2003
155.5
Aa2
AA\Stable
Dec 26
Repayable
750
Aa2
AA\Stable
Repayable
quarterly
starting
March
2006
1
If the bonds of this series are not listed for trade on the TASE by October 1, 2007, the boldholders will be entitled to early repayment. The bonds that are not repaid
prematurely will bear annual interest at a rate of 5.3% until the listing date for trade (if any).
2
If the bonds of this series are not listed for trade on the TASE by October 1, 2007, the boldholders will be entitled to early repayment. The bonds that are not repaid
325
Jan 2007
Series
O
190
190
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
Percentage
interest
Linkage
Number of
installments
in which
interest is
repayable
Dec 2006
216.6
216.6
5.052
CPI
3 annual
33.4
33.4
4,116.8
4,116.8
Jan 2007
Total
installments
installments
190
190
2014
Date of last
repayment
Dec 26
2010
quarterly
starting
March 07
Dates of
payment of
interest
Repayable
quarterly
starting
March
2007
Outstanding
(NIS
millions)
including
linkage
250
Midrug
Ma'alot
rating
Aa2
AA\Stable
4,025.1
1
If the bonds of this series are not listed for trade on the TASE by December 31, 2007, the boldholders will be entitled to early repayment. The bonds that are not repaid
2
If the bonds of this series are not listed for trade on the TASE by December 31, 2007, the boldholders will be entitled to early repayment. The bonds that are not repaid
early will bear annual interest at a rate of 4.8% until the listing date for trade (if any).
326
Bonds issued by the Company after December 31, 2006
Series
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
Percentage
interest
Linkage
Number of
installments
in which
interest is
repayable
Date of last
repayment
Dates of
payment of
interest
Outstanding
(NIS
millions)
including
linkage
Midrug
Ma'alot
rating
P
Mar 2007
Approx.
729.7
Approx.
729.7
5.21
CPI
3 annual
installments
Mar 22
2017
Repayable
semiannually
starting
September
2007
Approx.
729.7
Aa2
AA\Stable
Q
Mar 2007
Approx.
178.3
Approx.
178.3
4.652
CPI
2 annual
installments
Mar 22
2011
Repayable
semiannually
starting
September
2007
178.3
Aa2
AA\Stable
R
Mar 2007
100
100
6.553
Unlinked
1
Mar 22
2012
Repayable
semiannually
starting
September
2007
100
Aa2
AA\Stable
1
If the bonds of this series are not listed for trade on the TASE by October 1, 2007, the boldholders will be entitled to early repayment. The bonds that are not repaid early
will bear annual interest at a rate of 4.7% until the listing date for trade (if any).
2
3
327
Bonds issued by a wholly owned and controlled subsidiary until December 31, 2006
Issued by
Africa
Internationa
l
Investments
Securities
(1997)
Ltd.1
Date of
deposit
Nominal
value (NIS
millions)
Original
yield (NIS
millions
Percentage
interest
Jan 2004
10
10
5.00
Linkage
Dollarlinked
Number of
installments
in which
interest is
repayable
1
Date of last
repayment
Jan 27
2009
Dates of
payment of
interest
Repayable
semiannually
starting
January
2004
Outstanding
Bonds (NIS
Millions)
Including
linkage
31.7
Midrug
Ma'alot
rating
Aa2
-
1
The bonds are secured by a lien on rights in profits from a residential project in New York. The said lien is a junior lien, subordinate to the financing bank's rights in the
project. The Company guarantees these bonds.
328
In addition it should be noted that a wholly owned subsidiary of the Company raised
capital through depositary receipts from private and institutional investors. Some of these
depositary receipts bear annual interest at rate of 0.4%-0.7% over the Bank of Israel rate,
while others bear annual interest at 0.5%-0.8% over the LIBOR rate. Depositary receipts
are for a term of 365 although the Group and/or the depositors may initiate early
redemption. Redemption of the deposits is secured by an unconditional guarantee of the
Company.
The balance of deposits held by the Group as at December 31, 2004, December 31, 2005
and December 31, 2006 is NIS 277 millions, NIS 1.1 billions and NIS 1 billions,
respectively.
1.23.2
Following is the average rate of interest for 2004, 2005 and 2006 on loans that are not
designated for specific uses by the Group, for short and long-term credit, from banking and
other financial institutions:
Percentage average interest rate pf undesignated loans
2006
2005
Short-term
Long-term
Short-term
Long-term
2004
Short-term
Long-term
From banks
Shekels
CPI-linked
US dollar
Japanese
Yen
Swiss Franc
Canadian
dollar
Euro
Shekels
CPI-linked
US dollar
5.7%
5%
6.7%
4%
7.2%
5.8%
5%
7%
4.4%
7%
5.92%
3.85%
3.29%
6.8%
5.5%
4.55%
1.8%
3.4%
-
1.47%
2.42%
2%
1.57%
2.27%
2.04%
2.28%
5.7%
4.3%
5.7%
-
4.5%
3.85%
4.75%
4.3%
3.88%
4.26%
4.3%
5%
4.5%
6.7%
5%
6.5%
4.4%
7%
4.4%
4.5%
2.8%
5.3%
4.5%
From other sources
5.5%
5%
7%
In the period between December 31, 2006 and the date of the Periodic Report, CPIlinked loans increased by NIS 400 millions, excluding NIS 1 billions raised through
CPI-linked bonds.
1.23.3
Restrictions on the Company in obtaining credit
1.23.3.1
Restrictions on liabilities of a “Group of Borrowers”
Companies of the Group constitute a “Group Borrowers” (as defined in the Bank of
329
Israel’s provisions of fair banking practice in the matter of “Restrictions on the
liability of a single borrower and a group of borrowers”, below, “the Procedure”).
As a result, Israeli banks are subject to restrictions regarding the maximum credit
they may grant to each Group company, including the Company, such restrictions
being affected by the total scope of credit granted to the Group and its controlling
owners.
In February 2006, two banks applied to the Company and Alon Israel Fuel
Company Ltd (below, "Alon") and presented their position as follows: in view of
the Company's right of veto, either directly or indirectly, in Alon, regarding various
resolutions in Alon and its subsidiaries (below, "the Veto Rights"), and in view of
the definition of the term "control" in the Procedure, the Company's Group and the
Alon Group should be considered a single Group of Borrowers for the purpose of
the Procedure. Consequently, these banks may not grant additional credit to
companies belonging to [either of] these two groups.
On December 18, 2006, a Memorandum of Principles was signed between
shareholders in Alon (Bielsol (1987) Ltd, Delek Holdings (Founded by the Kibbutz
Organizations) Ltd and Africa Israel Trade and Agencies Ltd1) (below, "the
Memorandum"). The Memorandum provided principles agreed upon between the
shareholders on promoting the public offer of Alon bonds, either separately or in
combination with an offer of Alon shares by the shareholders in Alon (below, "the
Issue Procedure"), and including the regulation of the relationship between the
shareholders in Alon subsequent to the completion of the Issue Procedure. For
additional details regarding the Memorandum, see paragraph 1.17.2 above.
The Company estimates that upon completion of the Issue Procedure, to the extent
that it is completed, based on the Alon Agreement and cancellation of part of the
Veto Rights granted to the Company in the Alon Group, the Company's Group and
the Alon Group will no longer be considered a single Borrower's Group for the
purpose of the Procedure. The Company's above assessment is forward-looking
information based on the Company's interpretation of the Procedure, and is
contingent on the completion of the Issue Procedure, and therefore there is no
certainty that the assessment will materialize, due to, among other reasons, refusal
of the Bank of Israel to accept the Company's interpretation or due to the noncompletion of the Issue Procedure.
1
A wholly owned subsidiary of the Company.
330
1.23.3.2
Financial covenants
A.
Loan agreements into which companies of the Group have entered, contain various
covenants.1 For details on the financial criteria which the Group must meet, see
Note 21to the Company’s financial statements as at December 31, 2006. As at
December 31, 2006, the Group has complied with the said covenants.2
B.
For details on the Company's solvency rating, pursuant to a published rating report,
see paragraph 1.23.8 below.
1.23.3.3
The agreements pertaining to pledges granted by the Company include, among
other things, provisions regarding the prohibition of any disposition on the pledged
assets (including sale and/or transfer and/or encumbrance); and/or prohibition on
any change in the Company's control.
1.23.4
Company’s guarantees to Group companies
From time to time, in the normal course of its business, the Company issues
guarantees to companies in the Group, against obligations of said companies
towards third parties including financing entities such as banks and institutional
investors. By granting guarantees to companies in the Group, the Company assists
such companies in obtaining loans, and promotes their operations.
Guarantees issued by the Company are granted at no cost to the Group’s
companies, excluding the following guarantees:
1.23.4.1
In February 2000, shortly prior to the public offer of Danya's securities, the
Company entered into an agreement with Danya, pursuant to which the Company
grants Danya guarantees in favor of third parties, on the condition that the
Company's total liabilities under the guarantees issued thereby does not exceed
NIS 60 millions (linked to the Construction Input Index of December 1999),3
against payment of a commission to the Company equal to 0.3% of the amount of
the guarantees issued by the Company. This guarantee agreement was extended to
an unlimited period, and may be terminated by written notification at the terms and
date provided therein.
1.23.4.2
Pursuant to a resolution of Danya's general meeting of May 2006, the Company
issued a performance bond and a guarantee in lieu of a delay fee, in favor of Danya
(as a building contractor), each of up to 5% of the fee of the contract, under which
1
In this context it should be noted that if the Company fails to comply with the financial covenants to which it
committed vis-à-vis Bank Hapoalim Ltd, such failure will be cause for an immediate demand for repayment of
the credits granted to the Company's controlling owner, Mr. Lev Leviev and companies in his control, and in
respect of which the controlling interest in the Company was pledged in favor of the Bank.
2
As at December 31, 2005 and December 31, 2004, the Company was also in compliance with the financial
covenants imposed thereupon.
3
As at the date of the Periodic Report, the Company's total liabilities in respect of the guarantees issued to
Danya, in favor of third parties, pursuant to this agreement, is NIS 125 millions.
331
Danya functions as the prime contractor of the 431 Highway construction,
operation and maintenance project, see paragraph 1.11.2.1 above. In consideration
for the guarantees, and to the extent that they are issued in favor of Danya, Danya
will pay the Company an annual commission of 0.5% of the amount of each
guarantee (principal). As at the date of the Periodic Report, the cumulative contract
fee (linked to the Index Basket) is NIS 311 thousands.
1.23.5
Credit received between the date of the financial statements until immediately
prior to the date of the Periodic Report1
For details on the issues of bonds to institutional investors after the balance sheet
date, see paragraph 1.23 above.
After the balance sheet date, a subsidiary that concentrates the Group's real es
operations in Russian (in which the Company holds an 88% interest) obtained a l
from a foreign bank in the amount of USD 200 millions, for a period of 18 mon
guaranteed by the Company; this was in addition to USD 60 millions credit obtained
the said subsidiary from the said bank in 2006.
1.23.6
The Company’s credit facilities, its conditions, and credit balance utilized as at
the date of the Periodic Report
The Group has credit facilities totaling NIS 3,150 millions as at
December 31, 2006, of which the Group has utilized approximately
NIS 1,600 millions.
The credit facilities are denominated in Israel shekels with the exception of NIS 450
millions, which are linked to the CPI and NIS 185 millions linked primarily to the
USD. Interest rates range from Prime minus 0.4% to Prime (in the majority of
cases, the interest is Prime minus 0.4%). Foreign currency interest rates range from
LIBOR plus 1.2% to LIBOR plus 1.4% (in the majority of cases the interest is
LIBOR plus 1.3%).
1.23.7
Credit at variable rates of interest
As at December 31, 2006, December 31, 2005 and December 31, 2004, the Group’s
bank credit at variable interest rates amounted to NIS 8,205 millions, 3,408 millions
and NIS 5,296 millions, respectively. Below are the details of credit at variable
interest rates that was granted to the Group:
332
Linkage
NIS
USD
SFR
EUR
JPY
CAD
1.23.8
Type of
Interest
Prime
LIBOR
LIBOR
LIBOR
LIBOR
LIBOR
2004
4.15% - 5.5%
1.85% - 5%
2% - 2.275%
3.9% - 4.6%
1.25% - 2.11%
3.89% - 7.64%
Interest Range
2005
5% - 5.8%
4% - 5.95%
2.15% -2.45%
3.6% - 3.9%
1.47% - 1.5%
3.95% -4.75%
2006
5.1% - 6%
6.6% - 6.8%
3.3% - 3.6%
4.9% - 5.3%
1.8% - 1.9%
5.6% - 5.8%
Prime/LIBOR
interest Range as at
December 31. 2006
6%
5.4%
2.1%
3.7%
0.6%
4.3%
Solvency rating
In April 2005, Midrug Ltd. (a credit rating company that, to the best of the
Company's knowledge, operates as a “Rating Company” certified by the State of
Israel) (below, "Midrug"), published a rating of the solvency of the Company,
Africa Financing and Africa Israel International Investments (1997) Ltd. (below,
“Africa Israel International Investments”), and Africa Finances (below, "the Rating
Report").
According to the Rating Report, updated by Midrug in September 2006, Midrug
awarded a Aa2 rating to the issuer (that is, to the Company), a Aa2 rating to the
Company's bonds (Series A through M) and the bonds of several Company
subsidiaries (Africa Hotels (Series D) and Africa Israel International Investments),
fully guaranteed by the Company, all as set forth in the Rating Report.
The Rating Report noted, among other things, that the Company guarantees existing
debts of Africa Finance and Africa Israel International Investments, and undertakes
to provide guarantees to any debt issued by these two companies in the future.
According to the updated Rating Report dated September 2006, the Company was
awarded a rating of Aa2 by Midrug, provided that the net debt to CAP ratio does
not exceed 63% (as at December 31, 2006, this ratio is 58.7%).1 Upon its
publication, this rating report opened new avenues of raising capital for the
Company outside the banking system.
In this context it should be noted that under the AA/Stable rating awarded by
Maalot Israel Securities Rating Company Ltd (below, "Maalot") to three bond
series issued after the balance sheet date, see paragraph 1.23.1 above, which is also
valid for all the Company's outstanding bond series (Series A through O), Maalot
noted that the rating was based, among other things, on the Company's policy to
achieve a net financial debt to net CAP ratio2 of 60%, based on the Company's
1
This condition is in lieu of the requirement that the Company's net financial debt in its consolidated balance
sheet will not exceed NIS 9 billions, in respect of which the initial rating was reported in the Rating Report
dated April 2005.
2
Net financial debt – includes short term debt from banks (including current maturities), long-term debt from
banks, and bonds, less the Company's liquid portfolio. Financial debt also includes other interest-bearing
liabilities as well as monetary guarantees and does not include debt in respect of BOT-type projects. If the
333
consolidated financial statements, upon implementation of Accounting Standard
No. 16 as part of the transition to reporting according to IFAS, including the
presentation of balance sheet assets at their fair value. The rating was also based on
Maalot's assessment that the net financial debt to net CAP ratio would not exceed
73% in the period preceding the publication of statements according to IFAS.
1.23.9
For details on the credit and debit balances between other companies in this
segment, between the Company and/or Africa Finance, which are linked and/or
bear interest that is determined from time to time, see also paragraphs 1.8.1.13,
1.9.1.11 and 1.10.14 above.
1.24
Taxation
1.24.1
International Taxation – Israel
1.24.1.1
Amendment to the Income Tax Ordinance
Amendment No. 132 (below, "Amendment 132") replaced the former basis of
taxation in Israel from a primarily territorial approach (albeit exceptions) with a
personal assessment method. This change caused the inclusion in the tax net of
income that were hitherto outside the taxation base in Israel. As a result of
Amendment 132, tax liability includes income produced or generated overseas.
The Amendment refers to various international tax issues, including the following:
A
Transition to personal taxation base for Israeli residents
B
Source of income rules
C
Rules for setting off losses generated overseas
D
Rules for tax credits in respect of foreign taxes
E
Taxation of dividends from foreign companies
F
Foreign controlled company legislation – taxation of undistributed passive income
of foreign companies controlled by Israeli residents (below, "CFC").
1.24.1.2
Following are the material changes, to the best of the Company's knowledge, in the
international taxation method in Israel, as far as it refers to the Group's international
tax structure. This information is based on the Company's best knowledge and does
not purport to constitute an accepted interpretation of tax laws:
A.
Taxation of Israeli residents (including Israeli resident companies) on a
personal basis
The provisions of the amendment provide that Israeli residents, either individuals or
companies, are liable for tax on their total worldwide income. Prior to the
amendment, as a rule, Israeli residents were liable to tax in Israel, on a territorial
Company acquires consolidated companies in the future, the debt of these companies will be included in the
financial debt for the purpose of the above calculatin.
334
basis (income generated, produced or received in Israel) while subsequent to the
amendment, Israeli residents are liable for tax in Israel on a personal basis
(independent of the site of income production). Therefore, Israeli residents are
taxed in Israel on dividends they receive from foreign companies.
B.
Tax liability in respect of dividends from overseas
According to the provisions of the amendment, when a dividend is received from
overseas, the company may elect one of the following two alternatives:
(1)
One – the company is liable for tax in Israel at a rate of 25% in respect of the
dividend from overseas, and concurrently receives a credit in respect of the foreign
tax that was deducted from the dividend at source (below, "direct credit").
(2)
Two – the company is liable for tax in Israel at the corporate tax rate, as prevailing
from time to time, on the grossed-up dividend amount (that is, the dividend paid to
the company and in addition, the tax paid on the income from which the dividend
was distributed), and concurrently, the company receives a credit in respect of the
foreign tax paid on the dividend and the underlying income (below, "indirect
credit").
The indirect credit is awarded in respect of dividends from subsidiaries or second
tier subsidiaries of an Israeli company as follows: indirect credits are issued both on
the tax paid by the direct subsidiary of the Israeli company, provided that the Israeli
company holds at least 25% of the means of control in the foreign subsidiary
(below, "the subsidiary"), and the tax paid by the second tier subsidiary of the
Israeli company, provided that the subsidiary directly holds at least 50% in the
second tier subsidiary (below, "second tier subsidiary").
The significance of the amendment is that income from dividends in Israel from
foreign investees that are beyond the level of a second tier subsidiary (from the
perspective of the Israeli company) or that fail to meet the conditions proscribed
above, are liable for tax without the benefit of an indirect credit.
C.
CFC Legislation
CFC rules are rules that were provided to prevent tax planning, the opportunity for
which is created by the personal tax system, in which an Israeli resident is taxed on
his or her total worldwide income. Ostensibly, if an Israeli resident establishes a
foreign resident company that produces income, the Israeli residents is not liable for
tax in Israel until the foreign company distributes a dividend to the Israeli resident.
The purpose of the CGC regulations is to impose a tax liability on the Israeli
controlling owner (whether an individual or company) in respect of passive income
(interest, dividends, royalties, rentals, and the proceeds from the sale of capital
335
gains) (below, "passive income") provided by a foreign entity controlled by the
Israeli owned, provided several conditions obtain prior to the actual distribution
thereof to the Israeli owner. It should be noted that dividends, the source of which is
income on which tax was paid at a rate exceeding 20%, are excluded from the
definition of "undistributed income" and are not included in passive income that is
liable for tax under the CFC regulations.
As a rule, according to the provisions, a controlling owner in a foreign controlled
company that has undistributed passive income, is considered to have received a
distribution of said income as a dividend. However, against the "theoretical
dividend," a "theoretical credit" in the amount of the foreign tax that would have
been paid thereupon had the income not been distributed as a dividend. In the case
of an indirectly controlled foreign company, the controlling owner is granted an
additional credit in respect of his relative share in the tax that would have been paid
in respect of the dividend distribution by each of the companies in the
concatenation of companies and for which none of the companies in the
concatenation of companies was entitled to a credit in respect thereof, either in part
or in entirety.
A foreign company that satisfied the following conditions is deemed a controlled
foreign company:
(1)
Foreign body of persons;
(2)
Rights are not listed for trade on a stock exchange (or no more than 30% of the
rights are listed);
(3)
The major part of the income or profits in the tax year stem from passive income;
(4)
The tax rate applicable to the passive income overseas does not exceed 20%;
(5)
Over 50% of the means of control in the company are held directly or indirectly by
Israeli residents.
1.24.2
Taxation on the Company's CFCs that hold real estate
The foreign companies in the Group are liable fot taxes overseas pursuant to local
tax laws. Tax liability of the foreign companies that hold real estate is in respect of
capital gains and/or income from the sale of assets and/or from rentals, after
deduction of expenses incurred directly relating to the assets, maintenance
expenses, interest, asset renovation and management expenses and allowed
depreciation on part of the asset cost (a rate that varies by asset), and in respect of
consumable systems – all pursuant to the local tax laws of the country in which the
company is incorporated and/or in which the income was produced. The tax rates
paid on such income vary from country to country.
336
1.24.2.1
Serbia
Corporate tax and capital gains tax – corporate tax in Serbia is 10%.
Tax withheld at source on dividend distributions – in the absence of a tax
convention, 20% tax is withheld at source in Serbia.
1.24.2.2
Romania
In general – As at January 1, 2007, Romania is a member of the EU. Taxation of
Romanian companies is effected on a personal basis which means that taxation is
effected on a global basis.
Corporate tax and capital gains tax – 16%
Tax withheld at source on dividend distributions to foreign companies– in the
absence of a tax convention, 16% tax is withheld at source.
Upon distribution of a dividend to Israel, 15% tax is withheld at source pursuant to
a tax convention between Israel and Romania, and subject to a holding of at least
25% in the Romanian company. Before Romania's accession to the EU, the
provisions of the tax convention between Romania and Cyprus applied; the
convention provided that tax would be withheld at source at a rate of 10% in respect
of dividends, subject to a minimum holding of 25%. From January 2007 onwards,
no tax is withheld at source in respect of dividends distributed from Romania to
Cyprus, subject to several conditions set forth in the EU Parent Subsidiary
Directive.
1.24.2.3
Russia
In general – Taxation of Russian companies is effected on a personal basis that is
on a worldwide basis.
Corporate tax – general tax rate is 24% (6.5% of which is paid to the federal
government and 17.5% is paid to the local government). Local authorities have the
authority to reduce the tax rate that is paid to them by up to 4%.
Upon a distribution of a dividend from a Russian resident company to another
Russian resident company, 9% tax is withheld at source. This is a final rate, that is,
income from dividends in the hands of the recipient Russian company are not
included in the tax base for the purpose or calculating corporate tax in Russia.
Tax withheld at source upon distribution of a dividend to a foreign company – in
the absence of a convention, 15% tax is withheld at source.
Upon distribution of a dividend to Israel, 10% tax is withheld at source, pursuant to
a convention between Israel and Russia.
Upon distribution of a dividend to Cyprus, 10% 10% tax is withheld at source,
pursuant to a convention between Cyprus and Russia. If the value of the interest in
337
the Russian company exceeds USD 100,000, tax is withheld at source at a reduced
rate of 5%.
1.24.2.4
Czech Republic
In general - As at May 1, 2004, the Czech Republic is a member of the EU.
Taxation of Czech companies is effected on a personal basis which means that
taxation is effected on a global basis.
Corporate tax and capital gains tax – As at January 1, 2006, corporate tax and
capital gains tax in the Czech Republic is 24%
Dividend income in the hands of a Czech company, received from a second Czech
company, is not liable for tax. However, if several conditions are not satisfied (i.e.,
the recipient company holds, continuously over at least 12 months, at least 10% in
the distributing company), 15% tax is withheld at source applies to dividends
distributed from and to Czech resident companies.
Upon distribution of a dividend to foreign companies – in the absence of a
convention, tax is withheld at source at a rate of 15%.
Upon distribution of a dividend to Israel, pursuant to a tax convention between
Israel and the Czech Republic, tax is withheld at source at a rate of 15%. A reduced
tax rate of 5% applies subject to a holding of at least 10% in the Czech company.
Upon distribution of a dividend to Cyprus or Holland, no tax is withheld at source,
subject to several conditions set forth in the EU Parent Subsidiary Directive.
1.24.2.5
Bulgaria
In general - As at January 1, 2007, Bulgaria is a member of the EU. Taxation of
Bulgarian companies is effected on a personal basis which means that taxation is
effected on a global basis.
Corporate tax and capital gains tax – In 2006 – 15%. As at January 1, 2007,
corporate tax and capital gains tax in Bulgaria was reduced to 10%.
Upon distribution of a dividend to foreign companies – in the absence of a
convention, tax is withheld at source at a rate of 7%.
Israel and Bulgaria, tax is withheld at source at a rate of 10% if the dividend is
distributed from exempt income or income subject to a lower tax rate in Bulgaria by
force of investment incentive laws, or 7.5%.
Upon distribution of a dividend to EU member states, no tax is withheld at source
as at January 1, 2005, subject to several conditions.
338
1.24.2.6
US
Corporate tax – US resident companies are liable for federal, state and municipal
US tax. State tax is a credit when calculating federal tax liability; federal tax rate is
35% while state and municipal tax rates vary by locate, and range between 0% and
12% (notably, the calculation method may vary from state to state).
Taxation upon dividend distribution from US resident company to second US
resident company – tax rate is determined according to the classification of the
distributing company and the interest in therein:
A.
If the distributing company is an LLC, deemed transparent for tax purposes in the
US – no tax is withheld at source upon the distribution of income from the LLC to
its parties having an interest in the LLC.
B.
If the distributing company is incorporated, income from the dividends received is
taxable in the US. However, the following credit is granted for tax purposes in
respect of income from dividend: if the recipient holds at least 80% in the
distributing company, the recipient company receives a credit in an amount equal to
100% of the dividend; if the holding is between 20% and 80% - the credit granted is
in an amount equal to 80% of the dividend. In all other cases, the credit is in an
amount equal to 70% of the dividend.
Tax upon distribution of a dividend in the US to an Israeli company – tax is
withheld at source at a rate of 12.5%, subject to all the conditions set forth in the
US-Israel tax convention (primarily, a holding of at least 10% in shares and voting
rights).
1.24.2.7
Cyprus
In general - As at May 1, 2004, Cyprus is a member of the EU. Taxation of Cypriot
companies is effected on a personal basis which means that taxation is effected on a
global basis.
Corporate tax – Corporate tax on Cypriot companies is 10% (for non-public
companies) and is 25% (for public companies).
Capital gains tax in Cyprus from the sale of real estate located in Cyprus or shares
of a company whose primary assets are real estate in Cyprus – 20%.
Income from real estate located outside Cyprus is not subject to capital gains tax
ion Cyprus.
Income from dividends, including foreign dividends, are exempt from corporate tax
and are generally also exempt from a 15% security charge (which applies only if
the holding is less than 1% or when several conditions relating to the passive
income of the distributing company are satisfied).
339
Upon distribution of a dividend to foreign companies – no tax is withheld at source,
based on domestic legislation.
1.24.2.8
Holland
In general – Holland is a member of the EU. Taxation is effected on a personal
basis which means that taxation is effected on a global basis. Holland has relatively
convenient domestic laws that, subject to certain conditions, grant exemptions from
tax on capital gains and income from dividends. These provisions are concentrated
under participation exemption provision (below, "participation exemption").
Furthermore, Holland is a signatory to a developed system of convenient tax
conventions with over 80 countries. A company is deemed a Dutch company if it
incorporates in Holland or, alternatively, its effective corporate management is
located in Holland.
On January 1, 2007, a tax reform designed to maintain Holland's attractiveness for
foreign investments came into effect.
Corporate tax – In 2006, corporate tax was 25.5% on income of up to €22,689 and
29.6% on income exceeding that amount. As at January 1, 2007, Corporate tax in
Holland is 25.5%: 20% on the first €25,000 and 23.5% at the next level of income
between €25,001 and €60,000.
Capital gains tax - ordinary tax rates apply. However, if certain conditions of the
participation exemption obtain, capital gains are entirely exempt from tax.
Participation exemption – is a full exemption in Holland granted to Dutch
companies that receive dividends from their investees (local and foreign investees
that are not wholly owned subsidiaries) and on capital gains generated by the sale
of such holdings. Up to December 31, 2006, a participation exemption was granted
if the following conditions were satisfied:
A.
The Dutch company holds at least 5% of the paid-in capital of the foreign company;
B.
The shares in the company are not held as a current asset;
C.
The exemption applies only if the subsidiary is liable fot tax on income imposed by
a governing entity in the company's non-local country of incorporation;
D.
Furthermore, the shares of the foreign subsidiary cannot constitute a portfolio
investment. Holdings of foreign companies that are not residents of Holland are
generally not deemed a portfolio investment if the parent company conducts
activities pertaining to decision making, management or financing in the group of
companies. However, if the subsidiaries generate income primarily from rentals,
there is a probability that they will be deemed a portfolio investment. Notably, this
condition does not apply to investments in EU member states.
340
AFI Europe NV, a Dutch resident investee of the Group, has an arrangement with
the Dutch tax authorities dated November 22, 2006, pursuant to which it benefits
from a participation exemption in relation to its holdings, subject to several
conditions.
The Dutch participation exemption was modified in 2007. The main conditions for
a participation exemption are now a holding of at least 5% in the company (foreign
or Dutch resident). An exception to this condition provides that a holding in a
passive company (foreign or Dutch resident), to whose income a tax rate of less
than 10% applies (based on Dutch regulations), is not entitled to a participation
exemption. In this matter, a passive company is considered a company the majority
of whose income (over 50%), on a consolidated basis, constitute assets that are not
used in a business. With regard to real estate companies, companies, in which at
least 90% of whose consolidated assets comprise real estate, are not deemed passive
companies.
Tax upon receiving a dividend in Holland – ordinary tax rates apply, and a credit is
granted on the foreign tax withheld at source in the resident country of the
distributing company. However, if certain conditions are satisfied, the company
receives a full exemption.
Dividends among Dutch companies are liable for tax at the full rate unless
participation exemption conditions obtain. In this case, the dividend is exempt in
entirety.
Tax on dividends from Holland to Luxemburg – no tax is withheld at source,
subject to several conditions appearing in the EU Parent Subsidiary Directive.
Tax on dividends from Holland to Israel – 5% tax is withheld at source pursuant to
the Israel-Holland tax convention, and subject to a minimum holding of 25%.
1.24.2.9
Philippines
Corporate tax – In the Philippines, corporate tax rate is 32%.
Under certain conditions and subject to approvals from Filipino authorities, lower
tax rates (5%) apply and/or exemptions from corporate tax are granted for a limited
period in respect of income from approved operations of companies that operate in
an approved economic region.
Tax withheld at source on dividend distributions to foreign companies – in the
absence of a convention, tax is withheld at source at a rate of 15%.
Israel and the Philippines, tax is withheld at source at a rate of 10% subject to a
minimum holding of 10% in the rights of the distributing company (otherwise, tax
341
withheld at source is 15%).
1.24.2.10
Canada
Corporate tax and capital gains tax– Canadian resident companies are liable for tax
on a global basis. Corporate and capital gains tax varies by classification of the
income, status of the income-generating company, and the province in which the
income is generated.
Federal tax rate is 38% while tax rates in the provinces and territories of Canada
vary. Federal tax is reduced if the income is generated in Canada. In principle,
effective tax rate (federal and provincial) ranges from 15.12% to 46.12%,
depending on income type and location of income generation.
Tax withheld at source on dividend distributions to foreign companies – in the
absence of a convention, tax is withheld at source at a rate of 25%.
Upon distribution of a dividend to Holland, pursuant to a tax convention between
Holland and Canada, tax is withheld at source at a rate of 5% subject to a minimum
holding of 10%.
1.24.2.11
British Virgin Islands
The British Virgin Islands are a British territory with autonomous rule and fiscal
independence.
There is no corporate tax, capital gains tax or tax withheld at source on dividend
distributions in the British Virgin Islands.
1.24.2.12
Luxemburg
In general - Luxemburg is a member of the EU. Taxation is effected on a personal
basis which means that taxation is effected on a global basis.
Effective corporate tax and capital gains tax is 22.88%.
Tax withheld at source on distributions of dividends to foreign companies – in the
absence of a tax convention, the tax rate withheld is 20%.
Israel and Luxemburg, tax is withheld at source at a rate of 5% subject to a
minimum holding of 10% (otherwise, tax withheld at source is 15%).
In principle, dividends and capital gains from investees are liable for tax unless
Luxemburg participation exemption conditions are satisfied. These conditions are:
the parent company in Luxemburg and the investee company are subject to full tax
in their respective countries; holding of at least 10% or cost of investment of at least
€ 1.2 millions (regarding capital gains, the minimum requirement for investment
costs is €6 millions) and duration of holding is at least 12 consecutive months prior
to the generation of the dividend income or capital gain.
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1.24.3
For additional details on the taxation of the Group in various segments of operation,
see Note 33 to the Company's financial statements dated December 31, 2006.
1.25
Restrictions on and regulation of the Group's operations
1.25.1
For details on the restrictions and regulation of each of the Group's segments of
operations, see paragraph 1.8.1.1(b), 1.8.2.13, 1.8.3.9, 1.9.1.3, 1.9.1.14, 1.10.3.1,
1.11.16, 1.12.28 and 1.13.17 above.
1.25.2
The Group's operations are subject to the provision of the Companies Law and the
Securities Law. Transactions between various Group companies are subject to all
the required approvals pursuant to the provisions of Part Six of Chapter Five of the
Companies Law.
1.26
Material agreements
An agreement dated April 25, 1999 between the Company and Memorand
Management (1998) Ltd. ("Memorand Management"), a company controlled by
Mr. Lev Leviev, the controlling shareholder of the Company, ("the Management
Services Agreement"), sets, inter alia, the following provisions:
1.26.1
Memorand Management will render management services to the Company, through
Mr. Leviev who will serve as the Chairman of the Company’s Board of Directors.
1.26.2
The Management Services Agreement will remain in effect until its termination, as
follows:
1.26.2.1
Each party has the right to terminate the Management Services Agreement, for any
reason whatsoever, by notifying the other party in writing 30 days prior to the
termination date. It is hereby clarified, that upon termination of the Management
Services Agreement, the payment of management fees to Memorand Management
will cease (however, Mr. Leviev will continue serving as Chairman of the Board of
Directors of the Company).
1.26.2.2
In addition, in the event that Mr. Leviev shall cease to serve as Chairman of the
Board of Directors of the Company, the Management Services Agreement will be
terminated immediately upon the said cessation of incumbency.
1.26.3
The consideration for the management services rendered was set at NIS 40
thousands per month, linked to the January 1999 index (i.e. approximately NIS 45
thousands per month as of the date of the Periodic Report), plus VAT as set by law.
1.26.4
The Company places at Mr. Leviev’s disposal an appropriate vehicle and a mobile
phone, and bears all expenses and compulsory payments imposed on and/or
entailed in a vehicle and/or a mobile phone and/or placing of the same at the
disposal of Mr. Leviev, including payment of the tax in respect to the benefit
embodied in the said furnishing of the vehicle. In addition, Mr. Leviev is entitled to
343
reimbursement of expenses incurred in the course of his work as Chairman of the
Board of Directors of the Company, including traveling expenses and
accommodation overseas.
1.26.5
Arrangements in respect to officers liability insurance and officers indemnification
insurance, that shall apply to the Company from time to time, shall apply to Mr.
Leviev, as an officer in the Company.
1.27
Cooperation agreements
1.27.1
Cooperation in the United States and Canada, between the Company and Mr.
Boymelgreen
1.27.1.1
Mr. Yeshayahu Boymelgreen has been the Company’s business partner in its real
estate development operations in the United States since 2002. These operations are
carried out through a number of jointly owned corporations for each project. The
said operations of the parties are based on a Memorandum of Understanding that
was entered into on April 4, 2002 (as amended from time to time) between the
Company or any subsidiary of the Company that shall be appointed by the same
(below in this Section herein:
"the Company") and Mr. Boymelgreen and
Boymelgreen Developers LLC ("Mr. Boymelgreen" and "the Boymelgreen
Company" respectively, and jointly "the BD Group"), according to which the
Company and the BD Group established a joint venture for the purpose of investing
in real estate in the United States and Canada ("the Memorandum of
Understanding").
1.27.1.2
According to the Memorandum of Understanding, the BD Group undertook to
refrain from engaging, executing, managing, being involved in or attempting in any
other manner, directly or indirectly, to exploit any real estate project in the United
States or Canada, without BD having first offered the project to the Company
before the said investment, and the Company having declined the offer to
participate in the project. Notwithstanding the aforesaid, the Company agreed that
properties, whether buildings or land, that were purchased by the BD Group prior to
the date of signing of the Memorandum of Understanding, are excluded from the
BD Group’s said undertaking.
1.27.1.3
Any property that is jointly owned by the parties is owned by a separate holding company
(LLC), and the holders of each holding company are the Company and the Boymelgreen
Company. As provided for in the Memorandum of Understanding, the Company and the
BD Group will provide all capital that is required for the purchase of properties by each
holding company, and that has not been otherwise obtained from one or more lenders ("the
Contribution of the Partners"). In general, the Contribution of the Partners is divided
between the parties as follows: the Company – 35% and the Boymelgreen Company –
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65%, other than in certain cases, in which the parties have reached specific agreements in
respect to the Contribution of the Partners.
Each such holding company is managed in accordance with a specific operating agreement,
that sets the proportions of the parties in the relevant project. As provided for in the
operating agreements, the BD Group manages the everyday business of each holding
company, with the exception of certain decisions or actions as provided for in the operating
agreements that require the approval of two thirds of the rights of the holders of the
relevant holding company.
1.27.1.4
According to the Memorandum of Understanding, the Company will grant the
Boymelgreen Company, for each holding company, a loan equal to 2.5% of the project’s
cost, as agreed on between the parties to the agreement.
In consideration for its services, the Boymelgreen Company will be entitled to basic
management fees in an amount equal to 2.5% of the total project cost, payable during the
construction period of the project. The Boymelgreen Company will also be entitled to
additional management fees in an amount equal to 2.5% of the total project cost, payable
out of the profits of the said project, if any, in accordance with the terms specified in the
Memorandum of Understanding.
1.27.1.5
According to the Memorandum of Understanding, should the Boymelgreen Company fail
to provide the investment capital it had undertook to provide in accordance with the terms
of the Memorandum in respect to: (1) any new property that the parties agree to purchase,
or (2) any additional cash investment that will be required by an existing holding company
– the Company will offer the holding company, in place of the Boymelgreen Company, a
loan amounting to up to 35% of the Contribution of the Partners (“the Loan”), and this
loan will be repaid to the Company by the Boymelgreen Company on dates and bearing
interest as agreed on by the parties to the Memorandum. This undertaking is secured by the
personal guarantee of Mr. Boymelgreen.
It was further set, that should the Boymelgreen Company be unable to provide its share in
the investment capital required by the holding company through repayment of the Loan,
the Company may, at its sole discretion, at any time and from time to time after the end of
the Loan period and for eight months thereafter: (1) convert the Loan or any part thereof
into shares of the holding company, in proportion to the total capital invested by the parties
in the holding company; or (2) convert the Loan or any part thereof to an interim loan
(mezzanine) of the holding company, that will bear interest as agreed on by the parties to
the Memorandum.
1.27.1.6
The Memorandum of Understanding and its amendment expires on April 4, 2007, and
thereafter the parties will not be under obligation to comply with the understandings in the
Memorandum, other than undertakings in respect to existing joint projects.
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1.27.1.7
Letter of intention dated February 11, 2007
A.
According to a letter of intention of the parties, entered into on February 11, 2007 ("the
Letter of Intention"), the BD Group will sell and transfer to the Company its holdings in
corporations that hold the joint assets in Las Vegas, Nevada ("the Nevada
Corporations"). In consideration, the Company will exempt the BD Group from all loans
in respect to these Corporations, and the BD Group will pay the Company USD 10 million
(this amount will be added to USD 1.3 million that have already been paid to the Group by
the BD Group). This amount will be paid to the Company out of the amounts payable to
the BD Group in respect to two projects held jointly by the parties, in New York (the
profits from which will be distributed to the parties in accordance with their proportionate
share in the holding companies).
B.
In the event that the Company does not purchase the share of the additional partner in the
Nevada Corporations (a partner the share of which in these Corporations is 50%), and
should it decide to sell its holdings in the Nevada Corporations within 12 months of the
date of the Letter of Intention; or in the event that the Company shall purchase the said
share of the additional partner in the Nevada Corporations, within 6 months of the date of
the Letter of Intention, the BD Group will be entitled to a proportionate part of the profit
generated for the Company as a result of the said sale, up to a ceiling of USD 11.3 million
only.
C.
In the event that the Company shall purchase the said share of the additional partner in the
Nevada Corporations, within a period 6 to 12 months from the date of the Letter of
Intentions, the BD Group will be entitled to 50% of the profit remaining for the Company
as a result of the said sale, up to a ceiling of USD 11.3 million only.
D.
In respect to other projects of the parties, the parties have agreed to reach an agreement as
to the manner of distribution of the receipts in respect to these projects. Should the receipts
in respect to these projects be distributed before the parties reach an agreement in respect to
the said distribution as aforesaid, amounts that the BD Group is entitled to in respect to
these projects will be transferred to a separate trust account. The parties further agreed, that
future payments in respect to the joint companies will be made with the parties' agreement.
1.27.1.8
The transactions for the sale of the BD Group's holdings in the Nevada Corporations will
be executed in accordance with detailed agreements, scheduled to be entered into between
the relevant parties, subject to the law governing in the United States. In addition, the
Company is required to obtain all permits in respect to the said sale of the BD Group's
holdings, in accordance with Article 275 to the Companies Law, and in considering that the
Contribution of the Partners in the Nevada Corporations is divided between the parties as
follows: the Company – 32.5%, Boymelgreen Company - 35%, and a group controlled by
Mr. Lev Leviev (controlling shareholder of the Company) - 32.5%.
346
1.27.1.9
The Company informed the BD Group that the latter is required to repay, no later than
April 4, 2007, the balance of the loans granted it by the Company.
1.27.1.10 As of December 31, 2006 the balance of the loans granted to the BD Group amounted to
approximately USD 142 million. The Loans were granted, subject to the terms set, at an
interest rate of Libor + 2%. The repayment date of each loan was set at the end date of the
project in respect to which the loan had been granted.
1.27.2
Agreement in principle for cooperation in Russia and in CIS countries
In 2000, a foreign subsidiary of the Company (below in this Section: “the Subsidiary”),
entered into an agreement in principle with a foreign company (below in this Section: “the
Foreign Company”), that is controlled by the Company's local partner in its operations in
Russia ("the Partner"), in respect to cooperation in transactions involving the purchase of
real estate and investments in real estate projects in Russia and in the FSU countries.
The agreement in principle sets, inter alia, that the parties will enter with right owners into
agreements for the purchase of rights to real estate, through joint corporations that the
parties will establish, in which the subsidiary will hold an 80% interest and the foreign
company will hold 20%. In addition, the Foreign Company undertook to offer the
Subsidiary every business transaction offered to the Company in the future in Russia and
FSU countries. The Subsidiary did not undertake to accept such offer and is not bound
towards the Company by any mutual obligation in respect to transactions offered it. It was
further agreed in the agreement in principle that each party would place its share of capital
and collateral at the disposal of the contracting parties, up to a total of USD 15 millions.
I.e., the subsidiary will place USD 12 millions and the foreign company will place USD 3
millions. In addition, it was agreed that should the parties decide jointly to increase the
capital that they place at the disposal of the contracting bodies beyond USD 15 millions,
and provided that the Foreign Company provides its share in full in a timely manner until
that date, that, should the Foreign Company be unable to provide its share in a particular
transaction for some unexpected reason, the Subsidiary may, at its sole and absolute
discretion, grant a loan to the Foreign Company, itself or through a bank or any other
financing institution, in order to finance the Foreign Company’s said share in the
transaction. The agreement in principle shall be renewed automatically every year, unless
any of the parties shall notify the other party 90 days prior to the renewal date, that it does
not wish to extend the term of the agreement. The majority of the Group’s operations in
Russia are conducted in cooperation, directly or indirectly, with the Foreign Company. For
the purpose of these operations, the parties established AFI Russia (for details, see Section
1.9.3.1 above).
As provided for in an amendment of the agreement in principle, effected by the parties, the
proportions of the holdings of the Subsidiary and the Foreign Company in AFI Russia
347
were altered, by way of transfer of shares against their par value, to 88% for the Subsidiary
(instead of 80%) and 12% for the Foreign Company (instead of 20%). It was further
agreed, that the Foreign Company will not be required to finance the AFI Russia, since the
latter will repay the Foreign Company the amounts that the same has placed to date at AFI
Russia's disposal (in the total amount of USD 6 million dollars). In addition, until further
financing is placed at AFI Russia's disposal in such a manner that, together with the loans
granted by the Subsidiary, directly or indirectly, to AFI Russia, the said financing will
amount to a total of USD 500 million, should the Subsidiary grant the same, at its
discretion, the Foreign Company's share will not be diluted under 12%. In addition, the
agreement regulated the terms of employment of the Partner as the CEO of AFI Russia.
As of December 31, 2006, the total amount of loans granted by the Group to AFI Russia
amounted to approximately USD 422 million. Towards AFI Russia's scheduled public
offering (for details see Section 1.9.3.1 as well as Section 1.31 below), 88% of this amount
(approximately USD 371 million) will be converted into capital, and approximately USD
51 million will be assigned to the Foreign Company, that will also convert it into capital.
The said loan of approximately USD 51 million that will be granted to the Foreign
Company for this purpose will bear interest at LIBOR + 1.85%. The parties further agreed,
that the loan will be repaid only from dividend that shall be distributed by AFI Russia and
from the sale of the Foreign Company’s shares in AFI Russia. Upon completion of the said
conversions, AFI Russia's shareholders' equity will amount, towards its public offering, to
USD 603 million.
In addition, as of the date of the Periodic Report, the Subsidiary and the Foreign Company
are expected to enter into additional agreements for the amendment and regulation of their
joint operations through AFI Russia (below in this Section 1.27.2: "the New
Agreements"). In frame of the New Agreements it was agreed, inter alia, as follows: (a)
while the Foreign Company holds at least 5% of AFI Russia's shares, the Partner will be
appointed CEO of the AFI Russia; (b) the Partner will be appointed a director in AFI
Russia (an obligation that will not apply while the Partner serves on AFI Russia's board of
director by virtue of his role as its CEO); (c) transfer of shares in AFI Russia by any of the
parties will be subject to the right of first refusal granted to the other party, with the
exceptions specified in the New Agreements; (d) the Partner shall be granted the tag along
right, and the Subsidiary shall have the drag along right.
The agreement in respect to the anti-dilution provision in respect to the Foreign Company,
as aforesaid, shall remain in effect. In addition, the terms of employment of the Partner as
AFI Russia's CEO were agreed on.
The aforesaid constitutes forward looking information, based on the Company's estimates,
that may not be realized should the parties not enter into the said the New Agreements.
348
1.28
Legal proceedings
For details in respect to material legal proceedings involving companies of the Group, see
Note 21A to the Company’s financial statements as of December 31, 2006.
1.29
Financial information in respect to geographical segments
For details in respect to financial information about the geographical segments in which the
Group is involved, see Note 36 to the Company’s financial statements as of December 31,
2006.
For details of financial development, see the Report of the Company’s Board of Directors
for the year 2006.
1.30
1.30.1
The objectives and business strategy in each of the Group’s segments of operations were
specified in Sections 1.8 to 1.13 above.
1.30.2
Recently, the Company established a business strategy that focuses on the development of
several business segments and territories (the Company’s business matrix). Its principal
goals focus on expanding the business operations and increasing the value of the
Company's assets, by leveraging its core abilities in the real estate and infrastructure
segments, and focusing its development efforts in international markets. The segments of
operation include: real estate, construction and infrastructure, energy and industries.
1.30.3
The Company will focus on several territories, including: America (mainly North
America), Europe (mainly central and eastern Europe), Russia and the FSU, Israel and
several countries in the Far East.
1.30.4
A major goal of the Company's management is future business development, including
land acquisition, locating of strategic properties and betterment of existing properties,
including in new geographic areas, with the intention of focusing on real estate initiatives
in the commercial, income-producing and hotel real estate segments, as well as on the
development of residential real estate, to the extent that worthy business opportunities are
found in the same. This, inter alia, for the purpose of maximizing return and dispersing
risks, while pursuing and exploiting business opportunities.
1.30.5
In addition, from time to time the Company's management, consulting with professionals,
examines various options in respect to raising capital in Israel and overseas, including by
issuing various operations of the Company’s Group. Thus, the Company’s management has
been working for a long while towards issuance of the Group’s real estate operations in
Russia, as well as other operations of the Company.
1.30.6.
The Company owns the operations of an investment house in Israel, that it intends to
expand. In 2007, once the legal position in respect to the REIT funds is clarified, the
Company will strive to integrate also into these operations, with the goal of becoming a
leader in this segment in Israel.
349
1.30.7
In addition to the aforesaid, the Company engages in the present in several additional
segments, some of which have to be bettered and preserved, including the hotel segment
(mainly overseas operations), commerce (fashion) etc.
1.30.8
Additional goals are development of the industry segment and expansion of the operations
in the energy segment.
1.30.9
The Company perceives the development of real estate and infrastructure projects at a
substantial scope an inseparable part of its competitive advantage, and intends to continue
developing projects of this type in Israel and overseas.
1.30.10
The Company perceives its contacts with the financial markets, the banks and the
investment institutions as valuable, and intends to maintain and nurture these contacts also
in the future. The Company will continue leveraging its capabilities in segments of
financing, raising of financial resources, and capital structure changes, in accordance with
the Company's business development.
1.30.11
The Company will adapt its organizational structure and will man key positions in respect
to human capital, as shall be required for realization of its strategy.
1.30.12
In addition, the Company perceives itself as being obligated towards the Israeli economy,
and will therefore continue to increase its responsibility, and will contribute out of its
resources and the abilities of its people to enhance the social environment in which it
operates.
The Company’s estimates in respect to the Group's goals and strategy are forward looking,
and are based on the Company's estimates in respect to the Group's economic and business
development, considering its past experience. In practice, the said estimates may not be
realized, or may be realized in a different manner than projected, due to various external
factors or due to the realization of the risk factors specified in Section 1.32 below.
1.31
Expected developments in the forthcoming year
1.31.1
On March 25, 2007, the Company’s Board of Directors decided to continue advancing
proceedings towards the issue of a subsidiary that centralizes the Group’s real estate
operations in Russia, on the London Stock Exchange, in frame of the main list. The
Company’s management estimates that this process will be completed by the end of the
second quarter of 2007. In this context it should be noted, that as is customary in global
public offering proceedings of real estate companies, the subsidiary hired the services of
the company Jones Lang LaSalle, independent valuators, expert in the international real
estate markets in general and in the Russian real estate market in particular, to valuate the
subsidiary's real estate property portfolio. On March 23, 2007, the subsidiary received a
draft summary of the property portfolio valuations, see Section 1.9.3.3 (A) above.
According to this draft, the subsidiary's property portfolio is valued, as of March 2007, at a
total of approximately USD 3.8 billion. It should be emphasized that the property portfolio
350
valuation constitutes a major component in the valuation of the subsidiary towards its
public offering, however this value is affected by many additional factors, the impact of
which cannot be estimated at this time. It should be further emphasized, that the valuation
draft document is not final, however the Company estimates that until the date of its
signing, in the next few days, no material change is expected in its results.
1.31.2
The Company intends to expand its operations in the real estate development segment in
south east Asia also to China and India, by cooperating with local parties in the
development of real estate properties.
1.31.3
The Company projects massive continued operations in the BOT segments, both in frame
of the Tel Aviv city train, and due to expansion of the contractual subsidiary's operations in
projects such as Road 431 etc. In addition, the Company will construct Section 18 in frame
of the "Derech Eretz" venture (Road 6). Expansion of the BOT operations is a goal both in
Israel and overseas, as the opportunities allow.
1.31.4
The Company intends to continue preparations towards an offering of the shares of its
subsidiary in Europe (AFI Europe, a wholly-owned subsidiary of Africa Properties1) to the
public and/or to institutional investors, and their listing on the London Stock Exchange.
The offering date will be set in considering market conditions and additional factors,
including finalization of Africa Properties' readiness for such a move. The above
information includes forward looking estimates and projections. Since this pertains a
complex move that extends over considerable amount of time, and that is subject to factors
that the Company and AFI Europe cannot control, such as the state of international capital
markets, the state of the real estate market in Europe, and the economic situation in Europe,
there is no certainty that the aforesaid process will be completed under the terms and at the
time specified, if at all.
1.31.5
The Company's intentions, as specified in this Section above, are forward looking
information, and are based on the Company's estimates in respect to the Group's economic
and business development, considering its past experience. In practice, the said estimates
may not be realized, or may be realized in a different manner than projected, due to various
external factors or due to the realization of the risk factors specified in Section 1.32 below.
1.32
Discussion of risk factors
The principal risk factors of the Group, deriving from its general environment, its segments
of operations and the unique characteristics of its operations, are described below:
Macroeconomic risk factors
1.32.1
1
Various currencies
For details of AFI Europe, see footnote 1 in Section 1.8.2.2
351
1.32.1.1
The Company has loans and deposits in various currencies (foreign currency, linked
shekels, and unlinked shekels), and fluctuations in currency exchange rates (mainly in
respect to the US dollar and the euro) and in the Consumer Price Index could have a either
positive or a negative effect on the Group’s financing income and expenses.
1.32.1.2
The Group operates in various countries where the reporting currency is not Israeli shekels
(the reporting currency in overseas countries where the Group operates is mainly the US
dollar or the Euro), and as a result, a change in the real exchange rate of the shekel vis-àvis the US dollar or the Euro, exposes the reported results and shareholders’ equity of the
Group, and particularly those of the Company, to risk.
1.32.1.3
Some of the payments that the Company is obligated to make (mainly in the construction
segment), generally in respect to the cost of employing foreign workers, purchase of certain
raw materials and imports from overseas of construction inputs and/or construction
equipment, are linked, directly or indirectly, to the exchange rates of foreign currency.
Changes in the exchange rate of foreign currency may to affect the Group’s operations also
indirectly, due to a resulting rise in the prices of raw materials and other inputs, and in turn
an increase in the costs of contracting suppliers, sub-contractors and other service
providers. Thus, changes in the exchange rates of foreign currency may affect the Group's
operations and its financial results.
1.32.2
Economic recession
The Group’s operations are dependent, inte alia, on the state of the economy. An economic
slowdown could lead to a decline in the Company’s operations,
particularly in the
construction segment (e,g,, due to a decline in the demand for residential units), in the
infrastructure segment (e,g,, due to a decrease in resources allocated to this segment by the
governmental bodies), in the income producing properties segment (e,g, due to a decline in
the demand for rental space), in the real estate development segment (e,g, due to a decline
in available resources in the economy and in demand), and in the hotel and leisure segment
(e.g. as a result of a decline in the available income of households).
1.32.3
The security situation in Israel
An escalation in the security and political situation affects the Group’s operations in
general, and the real estate sector and the hotel and leisure sector in particular. This is
expressed, for instance, in a decline in the demand for rental space and residential units, a
shortage of manpower in the construction segment, an increase in the cost of construction
works, and a low level of incoming tourism to Israel.
1.32.4
Earthquake damage
According to the customary insurance policies, the Group’s companies are obligated to pay
self-participation in the event of damage due to an earthquake. Should extensive damage be
352
caused to the Group’s properties following an earthquake, the Group may be exposed to
significant risk that it is unable to estimate.
Industry risk factors
1.32.5
Change in the index of inputs to construction
An increase in the index of inputs to construction may affect construction prices, and in
particular the prices of the Group’s construction work contracts with construction
contractors.
Due to the gap between construction investment, that is usually made in prices linked to the
index of inputs to construction, and the revenues, that are usually linked to the Consumer
Price Index, the Group may be exposed to risk should changes occur in the said indices.
1.32.6
Availability of raw materials
Interruption of the supply of raw materials as a result of strikes and/or labor disputes etc.,
could cause a partial or complete discontinuation of the Group’s operations in the
construction and infrastructure segments.
1.32.7
Overseas operations of the Company
The Company’s overseas operations expose it to the risks inherent in the country in which
it operates. This exposure is due, inter alia, to political changes that could affect the
economic situation in these countries. The risk rating of the principal countries (based on
the rating of government bonds of these countries, in local currency) in which the Group
operates, according to Moody's, are provided below:
– US
Aaa
– Russia
Baa2
– Czech Republic
A1
– Canada
Aaa
- Romania
Baa3
- Holland
Aaa
- Philippines
B1
- Bulgaria
Baa3
Although all the countries in which the Company operates, as aforesaid, are regarded as
“investment grade”, the Company’s operations in Russia are exposed to risks that are not
characteristic of other countries. In this regard, one should take into account, inter alia, the
fact that the financial services market (banking, insurance, etc.) in Russia is as yet less
developed than the customary systems in the western world.
1.32.8
The State’s infrastructure development budget
Infrastructure development is directly affected by the State budget. Accordingly, a decline
in the budgets designated for development, including budgets designated for the paving of
353
roads, railways and bridges will result in a decline of the Group’s scope of operations in
the infrastructure segment.
1.32.9
Government policy in respect to the availability of mortgages and/or real estate
taxation and/or benefits for apartment buyers
Government policy in respect to these subjects affects the scope of demand for residential
apartments. Amendment of the government's related policy, including the cancellation of
some and/or all benefits in respect to mortgages,
location-related grants and/or the
conditions under which benefits are granted, may reduce the demand for apartments.
1.32.10
Availability of manpower
Availability of manpower (Israelis, workers from Judea and Samaria, and foreign workers)
affect the Company’s ability to meet its obligations under the work schedule set for it and
its costs, in particular in the construction and infrastructure segments and in the hotel
segment.
1.32.11
Strikes and general closures
General strikes in the construction and infrastructure segments may delay the timely
completion of the Group’s project.
Specific risk factors
1.32.12
Management of derivatives and financial instruments
The Group operates in the derivatives and financial instruments market. The results of
operations in this market affect the Company’s present and future results. Most of the
transactions the Company enters into are for economic hedging purposes, rather than
accounting purposes, and their results are attributed to the financing expenses line item in
the financial statements. This type of transaction, that is characterized by considerable
volatility and considerable risk of “success” or “lack of success”, affects the financing
expenses line item in the Company’s financial statements.
1.32.13
Restrictions on the liabilities of a group of borrowers
See Section 1.23.3.1 above.
1.32.14
The table below presents a summary of the Company's risk factors, by the nature of the risk
factors, while rating the extent of their affect on the Group's operation as a whole:
354
The extent of the affect of the risk factor on the
Risk factor
overall operations of the Company
High effect
Medium effect
Low effect
Macroeconomic risk factors
Various currencies
X
Recession
X
The security situation in Israel
X
Earthquake damage
X
Sector risk factors
Change in the index of inputs to
X
construction
Availability of raw materials
The Company’s operations overseas
X
X
Changes in the State’s infrastructure
X
development budgets
Government policy in respect to the
X
availability of mortgages and/or real
estate taxation and/or benefits for
apartment buyers
Workforce availability
X
Strikes and general closures
X
Specific risk factors
Management of derivatives and
X
financial instruments
Restrictions on a group of Borrowers
X
355
356
357

africa israel investments ltd.

Transcription

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