from the January 2009 issue

Israel Information Technology report Q4 2008

The Israeli IT market's recent momentum should be maintained during BMI's 2008-2012 forecast period, despite some macroeconomic challenges. IT spending reached an estimated value of US$4.4bn in 2007.

BMI projects that the local IT market will grow at a compound annual growth rate (CAGR) of around 7% for the next few years. A key positive for the IT market is that nearly 50% of spending is accounted for by major government and military sector projects, which are unlikely to be affected by a short-term economic slowdown. Indeed the government will likely up its own consumption levels in a bid to prop up the economy.

Due to Israel's exposure to the US economic decline, and a domestic export slowdown, conditions are not as favorable as at the start of last year. Despite this, there should be particular opportunities for IT vendors in the fields of banking and financial services, where spending is being driven by regulatory compliance and reforms. Defense concerns remain at the top of the national agenda, and this is still an important area for IT spending. There are opportunities in both public and private sectors with organizations like Israel Aircraft Industries. Other growth areas such include solutions for the telecom industry, health systems, and CRM.

Government IT initiatives represent an opportunity. The government is committed to using IT as a tool to achieve key policy goals of reducing poverty and achieving strong, balanced growth. Meanwhile, consumers are also increasing outlay on IT. Computer sales were notably buoyant in 2007, and lower interest rates should provide a support, despite the risk of higher inflation. High Internet penetration and growing broadband penetration remain strong drivers for the retail segment.

Industry Developments Information Technology is viewed as an important policy tool for the Israeli government's 2008-2010 socio-economic policy framework. The National Economic Council recently submitted a policy Agenda to the Government, which specified two main policy tracks of reducing poverty and achieving balanced growth. The first track is expected to emerge as the main priority.

It has been estimated that Israel currently has around 600,000 children living below the poverty line. The gini coefficient is among the highest of any OECD country. A 2007 survey found that only 30% of children living in poverty have Internet or home PC access, as compared with 90% in the top income group. There is also an ethnic dimension to digital inequalities. In order to deal with the digital divide problem, several specific measures have been proposed: As part of its modernization agenda, the government is also pressing ahead with various other strands of its e-government project. Among other initiatives, there has also been spending on computers in healthcare and the nationwide paperless court initiative. The e-government program is leading to increased demand for computers, with the Israeli government reaching a supply agreement last year with Dell and HP.

The top three IT services vendors, Israeli companies Ness Technologies, Matrix, and US giant IBM, have at least one-third of the local market. Israel's domestic IT service giants have strong advantages due to local knowledge and contacts. Despite their global ambitions, Israel remains an important market for these companies and typically accounts for 40-50% of revenues.

Ness Technologies, one of the leading local IT companies, reported a solid financial start to 2008, with revenues up 36% year-on-year (y-o-y) in the second quarter to a record US$170.6mn. Meanwhile, fellow Israeli IT giant Matrix reported a 7.5% rise in revenues in Q108 to ILS192.3mn. Despite the success of several strong local vendors, international players won a share of government tenders.

Microsoft Israel has an annual turnover of around US$1bn. In 2007, Microsoft sold 450,000 XP and Vista operating systems in Israel, of which 40% were Vista. Microsoft also reported some high profile local wins in 2007 in both public and private sectors. In 2007 Microsoft Israel was also selected by Super-Pharm Israel, the leading drugstore chain in Israel, to roll out a portal.

Computer Sales Computer sales in Israel (including servers and accessories) were estimated at around US$1.7bn in 2007, up from US$1.6bn in 2006. The market is expected to grow at a CAGR of 6% over the 2007-2012 forecast period, to around US$2.2bn by 2012. Computer sales grew strongly in the first three quarters of 2007. Growth is being driven by a generally buoyant economy and are encouraging buoyant retail sales, with as many as 10% of Israelis purchasing a computer in 2007. In 2007 desktop sales were reported to be outstripping those of notebooks by 3:1. This reflects the fact that despite strong growth in demand for notebooks, the desktop sector is still unsaturated. Lower interest rates should help to support consumer demand despite fears of inflation.

Software Spending on software in 2007 was estimated to be US$886mn, up from US$772mn in 2006. The packaged software segment is expected to grow at a CAGR of around 8% over the forecast period.

Spending on software is shifting towards the small-medium enterprise (SME) segment. Increased IT budgets indicated increased spending on enterprise solutions in 2007. Areas of opportunity include security solutions, customer relationship management (CRM) solutions, as well as business intelligence management. CRM is a particularly buoyant segment currently with local IT giant Matrix reporting a number of public and private sector successes in H108. In terms of verticals, the financial sector is important, with other areas to watch including defense and healthcare.

IT Services IT services are projected to be the fastest growing segment of the IT market, driven by financial, government and military sectors. The IT services segment had a value of around US$1.4bn in 2007, and this is expected to rise to around US$2.2bn by 2012. A number of major outsourcing deals have highlighted the growing opportunity. Although Israel seemingly possesses many advantages as an outsourcing destination, in particular a technologically literate, linguistically skilled work force, and low labor costs relative to most developed countries, the country has failed to capitalize on these strengths in the past. However, the government is now actively promoting Israel to multinationals, and Israel is starting to emerge as a location for packaged applications and localization services. E-Readiness In 2007 Israel had around 4.3mn Internet users, representing a penetration rate of around 59% of the population. Broadband penetration was around 20.8%, or around 1.5mn accounts. The government has announced that it intends to make a big effort to narrow the digital gaps, which manifest themselves across various demographic lines.

Reprinted from the Israel High-Tech & Investment Report January 2009

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