Israel information technology report q1 2012

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TECHNOLOGY REPORT Q1 2012

INCLUDES 5-YEAR FORECASTS TO 2016

Part of BMI's Industry Report & Forecasts Series

Published by: Business Monitor International

Copy deadline: January 2012

CONTENTS

Executive Summary 5

SWOT Analysis 8

Israel IT Sector SWOT 8

Israel Telecoms Industry SWOT 9

Israel Political SWOT 10

Israel Economic SWOT 10

Israel Business Environment SWOT 11

IT Business Environment Ratings 12

Table: Regional IT Business Environment Ratings 15

Middle East & Africa IT Markets Overview 16

MEA IT Regional Overview 2011 16

Israel Market Overview 23

Government Authority 23

Government Initiatives 24

Outsourcing 29

Industry Forecast 32

Table: Israeli IT Industry – Historical Data & Forecasts (US$mn, Unless Otherwise Stated) 35

Internet 36

Table: Internet Data And Forecasts, 2008-2015 36

Macroeconomic Forecast 38

Table: Israel – Economic Activity, 2011-2016 40

Competitive Landscape 41

Company Profiles 45

Ness 45

IBM 48

HP 49

Matrix 51

Microsoft 53

Country Snapshot: Israel Demographic Data 55

Section 1: Population 55

Table: Demographic Indicators, 2005-2030 55

Table: Rural/Urban Breakdown, 2005-2030 56

Section 2: Education And Healthcare 56

Table: Education, 2002-2005 56

Table: Vital Statistics, 2005-2030 56

Section 3: Labour Market And Spending Power 57

Table: Employment Indicators, 2001-2006 57

Table: Consumer Expenditure, 2000-2012 (US$) 57

Table: Average Annual Wages, 2000-2012 58

BMI Methodology 59

How We Generate Our Industry Forecasts 59

Transport Industry 59

Sources 60

Executive Summary

Market Overview

BMI projects that the Israeli IT market will grow to a value of US$6.1bn in 2012, consolidating a

recovery in 2011 from the impact of the global economic situation The market should expand at a

compound annual growth rate (CAGR) of 8% over BMI's 2012-2016 forecast period, owing to stable

demand from defence and government sectors as well as opportunities in verticals such as financial services and small and medium-sized enterprises (SMEs)

In 2011, vendors reported solid demand for IT services across industrial, government, defence, and financial services segments, with new projects initiated by the Israeli Ministry of Defence (MOD) and the

Israel Electric Company The Israeli IT market has strong fundamentals that should keep it in positive

territory during BMI's five-year forecast period Household computer penetration of around 75% offers

potential for further growth High internet penetration, including growing broadband penetration, are drivers for the retail segment, while the financial services sector accounts for about 15% of Israeli IT spending

Industry Developments

As part of its modernisation agenda, the government is pressing ahead with various strands of its government project Among other initiatives, there has been spending on computers in healthcare and the nationwide paperless court initiative The e-government programme is leading to increased demand for computers, with the Israeli government reaching supply agreements with vendors such as Dell and HP Competitive Landscape

e-The Israeli IT services market is competitive, with leading multinational competitors IBM and HP

(following its merger with EDS) both estimated to have Israeli IT services market shares of around 10%

HP Israel's software division hosts HP's biggest research and development (R&D) centre worldwide, and

the company also has significant production facilities in Israel

In June 2011, Israeli IT giant Ness confirmed its acquisition by an affiliate of Citi Venture Capital

International for approximately US$307mn Ness reported revenue of US$141mn in Q211, with just 1%

annualised growth, and revenue from the Israeli market at 42% of the total Meanwhile, in Q311, rival Israeli vendor Matrix reported 16.6% growth in revenue to a record NIS435mn

Cloud computing is a major focus of IT company investment in the Israeli market In H111, US PC hardware leader Dell inaugurated a new Israeli R&D centre, which will focus on developing storage technologies and cloud computing solutions Meanwhile, cloud computing now accounts for around 70%

of the work at Microsoft's Israel-based R&D centre

Computer Sales

The Israeli computer hardware market, including desktops, notebooks, servers and accessories, is

forecast to reach US$2.6bn in 2012, up from US$2.5bn in 2011 The market is expected to grow at a CAGR of 6% over the forecast period to reach US$3.3bn in 2016 The current rate of PC penetration, while high for the region, represents potential for organic growth

The Israeli IT market is relatively mature, but hardware still accounts for around half of the total market, excluding communications hardware Notebooks are the fastest-growing segment of the market, but smartphones and tables are emerging as alternative connectivity solutions

Software

Israeli software spending is projected at US$1.4bn in 2012, up from US$1.3bn in 2011 The packaged software segment is expected to grow at a CAGR of around 9% over the forecast period In Q111, the pick-up in demand for systems and upgrades continued in both public and private sectors, with

investment by government organisations such the MOD and Israeli Police, and from utilities and financial sector companies

Software spending is shifting towards the SME segment, which forms the mainstay of the Israeli business sector Spending on enterprise solutions has grown since 2007, with reviving or emerging areas of

opportunity including security, customer relationship management (CRM) solutions and business

intelligence In terms of verticals, the financial sector has been a mainstay of demand, with other key opportunities including defence and healthcare

IT Services

The IT services segment is forecast to reach a value of US$2.0bn in 2011 and this is expected to grow at a CAGR of 10% over the forecast period to reach US$2.9bn in 2016 In 2011, vendors reported a continued flow of new projects in sectors such as government, financial services, homeland security, and utilities

Government and defence are two key sectors likely to be a continued source of opportunities, while other growth areas include healthcare IT and utilities Despite failing to capitalise in the past, Israel is starting

to emerge as a desirable location for packaged applications and localisation services

E-Readiness

Israel's relatively high PC penetration and the growing availability of broadband access mean internet penetration is likely to continue its upward trajectory The government has announced it intends to make a big effort to narrow the digital gaps that manifest themselves across various demographic lines

Israel's strong broadband growth has long relied on a handful of developments across the market These include the competition between Bezeq and the cable companies, with five major internet service

providers (ISPs) vying for market share from both the corporate and residential markets, which enjoy high PC penetration rates, advanced telecoms infrastructure, and minimal regulatory intervention

Another development likely to stimulate growth is the introduction of local loop unbundling (LLU), which will give alternative operators access to Bezeq's network and stimulate much greater competition

SWOT Analysis

Israel IT Sector SWOT

Strengths ƒ One of the most modern economies in the region, with a highly educated, linguistically

skilled workforce, and relatively low labour costs compared with most developed countries

ƒ Strong defence and government spending provides base for IT demand

ƒ Relatively mature IT market, with services accounting for an estimated 33% of spending in 2009 Despite this, the market for basic IT hardware and software is far from saturated

ƒ Strong political support, with government having implemented many policies to aid in the development, success and expansion of the IT sector

Weaknesses ƒ The recession at the beginning of the 2000s created a client mentality of focusing on

the bottom line, with enhanced services and customer market power adding to pressure on pricing and margins

ƒ Digital divide, with 3% of bottom-income group having home internet access

Opportunities ƒ Despite the financial crisis, the financial services sector, which accounts for around

15% of spending, will have to spend on compliance with Basel II and other international standards, driving growth

ƒ Defence and government projects should be less sensitive to the economic downturn

ƒ Outsourcing, Software-as-a-Service (SaaS) and applications management likely to grow fastest out of IT services, with particular opportunities in financial sector

ƒ Opportunities for partnership/investment in Israel's lively local IT company sector

ƒ Healthcare IT will be a growing source of opportunity

sentiment

ƒ Other factors may affect business confidence, notably the security situation

ƒ The weaker local currency, and aggressive pricing, may continue to constrain growth and put pressure on margins

Israel Telecoms Industry SWOT

ƒ Liberal mobile market consisting of four operators

ƒ Mature market with strong take-up of value-added and 3G services

Weaknesses ƒ Mobile penetration rate of over 120% means growth in the mobile market has slowed

considerably and operators must look for alternative revenue sources

ƒ Lack of competition in all telecoms sectors

ƒ Regulator has been slow to license new services, such as WiMAX wireless broadband

ƒ Voice over Internet Protocol (VoIP) licensing and triple-play for Bezeq placed on hold, which could hinder prospects

Opportunities ƒ Emergence of rival operator HOT Telecom, made up of the main three cable

operators (Golden Channels, Matav, and Tevel) to compete against Bezeq, could provide cheaper services

ƒ Introduction of number portability and the entry of mobile virtual network operators (MVNOs) to the mobile sector could shake up competition and drive down retail prices for consumers

Threats ƒ Continued interconnection tariff reduction could have a devastating effect on

Israel Political SWOT

Strengths ƒ Despite corruption allegations against some officials and members of parliament,

government members are still some of the most accountable in the region

ƒ Elections are for the most part free and transparent, ensuring that a broad spectrum of political views is represented within government

Weaknesses ƒ The protracted conflict with the Palestinians means there are persistent security risks,

although violence in the West Bank has been reduced significantly Strategies to minimise or end the conflict are domestically divisive

ƒ Frequent change to the composition of the coalition government often leads to policies becoming fragmented or significantly diluted

ƒ The fallout between Turkey and Israel, caused by the Gaza flotilla incident of May

2010, has meant that Israel has lost a key Mideast ally

Opportunities ƒ A warming of relations with Greece has given Israel the ability to engage in military

exercises over a larger geographic area

Threats ƒ The victory of Hamas in the 2006 Palestinian elections, its subsequent takeover of the

Gaza Strip, and Israel's military incursion into the territory in December 2008/January

2009 has added to uncertainty Finding a lasting solution poses a dilemma for Israel, which has previously said it will not talk to the militant organisation

ƒ The construction of the West Bank barrier and the continued home-building in some West Bank settlements antagonises the Palestinians and stands in the way of the peace process

ƒ Iranian President Mahmoud Ahmadinejad's refusal to give up his country's nuclear programme raises concerns that nuclear weapons could be used against Israel in the future

Israel Economic SWOT

Strengths ƒ The policy framework has stabilised in recent years with fiscal deficits brought well

under control

ƒ The workforce is highly educated and skilled

ƒ The country's close ties with the US provide it with substantial financial assistance for economic and military ends

Weaknesses ƒ The main downside risk to the economy is the security situation A sharp deterioration

can have an immediate impact on domestic confidence, tourism receipts, the exchange rate and foreign investment

ƒ The economy is highly exposed to that of the US, in terms of exports, investment and remittances

Opportunities ƒ In the long term, rising levels of employment will underpin private consumption growth

ƒ Israel produces more technology start-up companies than any other country in the world except the US

ƒ The discovery of a large offshore gas deposit will bring foreign investment and is expected to serve the country's energy needs for decades

Threats ƒ Israel's energy supplies are not stable at the moment – the Egypt-Israel gas pipeline

has been targeted frequently in 2011, forcing the country to buy more expensive fuels from alternative sources

ƒ Competition from emerging Chinese and Indian producers of high-tech goods and polished diamonds, as well as sluggish growth in the eurozone, could undermine demand for Israeli exports

Israel Business Environment SWOT

networks, as well as transparent legislation

ƒ The banking system is one of the most sophisticated in the region, and offers a wide range of both consumer and commercial credit products

Weaknesses ƒ Historic political instability increases the risk premium of investment in Israel

ƒ Some limits on repatriation of capital exist and there are constraints on foreign investment in the high-tech sector

Opportunities ƒ Corporate tax rates, at 25%, have not increased markedly as a result of social

protests in 2011

ƒ The Qualified Industrial Zone agreements with Jordan and Egypt boost the potential for trade

Threats ƒ Strike action has proved extremely disruptive to the business environment over the

past two years

ƒ The parliament approved a plan to increase the country's oil and gas royalties, which could reduce energy profits in the future

IT Business Environment Ratings

BMI's Middle East and Africa (MEA) IT Business Environment Ratings compare the potential of the key

regional markets over our forecast period, through to 2016 The ratings reflect our consideration of political and economic risks, as well as risks associated specifically with IT intellectual property (IP) rights protection and government projects

In our updated Q112 ratings, country rankings are unchanged, reflecting stabilisation in most markets after the impact of the global economic downturn and political unrest 2012 is expected to see IT market verticals retain momentum To help maintain social stability, many regional governments have announced spending increases, including both capital investment and wage increases, which should boost spending

on information technology For example, to help maintain social stability, the Saudi government has announced US$93bn in handouts, including wage increases, which should boost consumer spending on durables such as PCs

Vendors also reported a pick-up in IT services project flow, with new IT projects in verticals such as banking, government, real estate and education Despite this, continued credit restrictions, global

economic headwinds and political instability mean that cautious spending patterns are likely to persist across many Gulf Co-operation Council (GCC) markets

The wealthy, high-tech GCC markets continue to occupy the higher rankings Factors such as

comparatively resilient consumer demand and ongoing infrastructure projects make this region relatively well positioned for growth in the post-credit crunch era In most cases we do not see IT spending

returning to its pre-crisis rate of growth over our five-year forecast period However, global trends such as cloud computing are relatively less established in the region but will grow in significance

Despite continued financial concerns concerning Dubai, the UAE retains the top spot in our Q112 table

In second place is Israel, where household computer penetration of around 75% offers potential for continued growth and about 50% of IT spending is accounted for by government and military projects Qatar takes third place, with its projected high rate of GDP growth keeping it ahead of the larger market

of Saudi Arabia in fourth

Kuwait, Bahrain and Oman occupy the next three places, and, as in Qatar, spending is expected to grow

in 2012, consolidating a recovery from the impact of the economic slowdown Economic reform and trade liberalisation will fuel spending on IT by both public sector organisations and enterprises

Turkey, in eighth place in our table, is expected to be a regional IT market outperformer as the focus of demand shifts towards the Anatolian region and the rate of PC penetration rises Meanwhile, South Africa's ninth spot reflects business environment risks rather than the considerable potential of the

country's IT market

Bringing up the field, Egypt's high growth potential is constrained by income and business environment considerations, while uncertainties continue to surround the Lebanese IT market, with a mixed picture with regards to economic policy

One factor that will keep IT spending growing in this region is the wave of e-government initiatives being implemented Government accounts for up to 40% of the IT market in some states, and governments in the region have allocated significant budgets for e-services development First-placed UAE's Strategic Plan calls for a strengthening of e-government programmes In Saudi Arabia, too, government bodies have pressed ahead with ambitious e-government and IT projects

A number of factors have contributed to a recovery in the UAE and other GCC markets such as Oman, including economic recovery and a reversal of population decline seen during 2009 Saudi Arabian population growth, for example, is expected to reach 10% by the end of our five-year forecast period, driving IT spending However, in markets such as the UAE, a property price slump and tighter credit are likely to continue to influence business and consumer caution

In many markets, liberalisation in sectors such as telecommunications and financial services is a factor driving demand for IT products and services The share of the non-oil sector in IT spending is expected to fall slightly in the UAE but to rise in Saudi Arabia, which accounts for 40% of regional IT spending However, despite these developments, the hydrocarbon sector remains key to IT spending, with oil and gas companies investing in IT to enhance operational efficiency, optimise cost structures and boost overall business agility

The UAE is forecast to remain the largest market in the region The IT market reported overall growth in

2011 but structural weaknesses still stand in the way of a more pronounced recovery, including weak credit conditions and Dubai's onerous debt repayment schedule In the wake of the Dubai financial crisis, new potential exists in the northern emirates where the government has launched a major infrastructure investment programme Government investment should also help support the market, with cloud services central to the Emirates' e-Government strategy for the next three years

There will be further UAE market opportunities in sectors such as education, healthcare, utilities, banking and telecoms A pick-up in the number of tourists should provide a boost to the carry trade, although there are concerns about the impact of sanctions against Iran

Qatar is expected to be one of the fastest-growing IT markets in the region over the next decade In its attempts to diversify the economy, the Qatari government is undertaking modernisation projects, which will offer opportunities to IT vendors The recent success of Qatar's bid to host the 2022 FIFA World Cup will boost the ongoing development of transport infrastructure as well as the construction of stadiums The Qatari government has outlined plans to invest QAR6bn (US$1.6bn) in information technology and

IT services as part of its ICT-2015 strategy

Saudi Arabia, Bahrain and Oman rank slightly behind their equally fast-growing GCC peers on grounds

of general business environment, but the IT market metrics remain attractive Saudi Arabia appears better placed than some other markets in the region to recover strongly from the recent economic slowdown The kingdom will continue to be a lucrative market for technology products and services, with the

country's youthful population supporting a continued rapid rise in PC and notebook penetration The relative political stability compared with some other markets in the region will also attract vendors Government-driven investments in transportation, property constructions and water and power plants will drive opportunities for IT vendors

In 2010/11 Kuwait's government spending was expected to increase by 10%, following a 38% decrease in the previous year, and some of this spending should carry through into 2011 A four-year government infrastructure spending plan, launched in February 2010, should mean more public sector IT

opportunities BMI also takes a positive view of market performance in Bahrain over the 2012-2016

forecast period A particularly important factor is Bahrain's growing status as a financial hub Global IT trends such as cloud computing, virtualisation and convergence will continue to gain ground in the Bahrain market The same is true of Oman, which, although like Bahrain one of the smaller markets in the region, should benefit from infrastructure projects in sectors ranging from tourism to ports

Of the non-GCC countries, Israel should have enough momentum from key sectors to expand over BMI's

2012-2016 forecast period In 2011, vendors reported a continued pick-up in the flow of IT projects, with

a new large tender from the Israeli MOD Our ratings also take into account opportunities in verticals such as financial services and small and medium-sized enterprises (SMEs), as well as growing demand for major IT outsourcing solutions Healthcare, the public sector and utilities are also generating new projects or significant contract extensions Falling unemployment and low inflation and interest rates should support domestic spending

South Africa is one of the Middle East and Africa's most significant IT markets in terms of size and growth potential However, it loses points for Country Structure and Market Risk The recent spate of wage bargaining, along with low interest rates and relatively low inflation, has increased spending on big-ticket items such as computers Projected improvement in South Africa's broadband infrastructure, and international bandwidth, will also be a growth driver

The South African market will be supported by factors such as government projects and investment by sectors such as telecoms The South African Department of Education has announced a target of rolling out laptops to all school children in the country by 2014

Egypt is expected to be one of the fastest-growing IT markets in the region over the next few years, but has a number of constraints, including low disposable incomes and economic disparities Prolonged political instability following the events of February 2011 could also impact on the market's development

The country's IT budget will benefit from youthful demographics, rising PC penetration and improving ICT infrastructure, despite a sub-optimal distribution network outside of Cairo

Lebanon also has some intrinsic advantages, including a cosmopolitan and multi-lingual labour force, and

a strategic position for the Levant markets There is potential for IT vendors in sectors such as telecoms, banking, utilities, real estate and government, but much will depend on the political stabilisation

necessary to implement reforms

Table: Regional IT Business Environment Ratings

Risks To Realisation Of

Returns

IT Market

Country Structur

e Limits

Market Risks

Country Risk Risks

IT BE Rating

Regiona

l Ranking

methodology and is designed to enable clients to consider each rating individually or as a composite, depending on their exposure to the industry in each particular state For a list of the data/indicators used, please consult the

appendix at the back of the report Source: BMI

Middle East & Africa IT Markets Overview

MEA IT Regional Overview 2011

The Middle East region divides into two

groups in terms of information society

development In the first group are

richer and more technologically

advanced countries, such as Israel and

the UAE, where internet penetration is

relatively high and many households

have access to broadband services In

more emerging markets such as Egypt,

on the other hand, computers remain a

luxury for many

Across the MEA region, the number of

internet users is expected to grow

significantly Qatar is projected to

advance the most in percentage terms,

with penetration rising from about 57.2% in 2011

to 82.8% by 2015 (note: figures may vary

elsewhere in report due to updated

forecasts after time of writing) Saudi

Arabia, where the second biggest increase

is forecast, will have 66% penetration by

2015, up from 52.5% in 2011 The UAE is

one of the most e-ready states in the

region, with internet penetration seen as

reaching 89% within the forecast period

Growth in the number of internet

subscribers is also forecast to pick up in

Saudi Arabia, with a 55% increase

between 2011 and 2015

Similar contrasts are apparent in relation to

broadband penetration, where mobile

broadband is now a major driver of overall penetration, due to 3G mobile service rollouts across the region Broadband penetration currently ranges from 5.1% in Kuwait to 27.7% in Israel

Government initiatives are afoot in most places, ranging from wireless broadband in Dubai to plans to deploy optical fibre extensively in countries such as Kuwait BMI's broadband penetration forecasts have

been downgraded in many markets as a result of the economic downturn, with Israel's 28.6% penetration seen as the highest in 2015 Saudi Arabia is projected to reach 25.7%, the second highest among the countries covered by BMI

Internet and broadband penetration growth will receive boosts from continued efforts to liberalise

regional telecoms markets Moves towards telecoms market liberalisation have continued in Qatar, Egypt, Saudi Arabia and other countries Broadband penetration has become a driver of PC ownership in some segments, due to the growing variety of multimedia and communication services available

There is also considerable PC market growth potential as the current level of computerisation is estimated

at less than 50% in every country in the region PC penetration in Egypt is estimated at around 10% and is forecast to rise above 20% by 2015 In Saudi Arabia, PC penetration is currently about 24% and should increase to more than 30% by 2015 Even in Israel, where household penetration was estimated at around 75% in 2008, there is potential for further growth

Government initiatives will drive more use of computers in education In the UAE, the Ministry of Education is leading an initiative to supply computers to state schools Around 25% of Egypt's schools are not equipped with computers and significant spending is expected as part of an EGP150bn project to build new schools Meanwhile, the South African Department of Education has announced a target of rolling out laptops to all school children in the country by 2014

Governments in the region have also allocated significant budgets for e-government development Egypt aims to make 200 government services available soon online through a new e-government portal Qatar's e-government programme and Hukoomi e-services portal will continue to drive investment in computer hardware across government agencies and client organisations South Africa's IFMS (Integrated Financial Management Systems) project manages the evolution of government IT systems to support

interoperability and e-government service development

Another key policy priority throughout the region is to increase utilisation of IT by businesses and in particular small and medium-sized enterprises (SMEs) One of the Saudi government policies that

vendors are capitalising on is the United Instalment Scheme (USI) finance option, which makes quality notebooks available to small and medium businesses Qatar's ICT governing body, ictQatar, has made increasing SME utilisation of IT a key policy objective Access to credit remains a barrier for smaller companies in Egypt, as elsewhere, but initiatives such as that launched by the Bank of

high-Alexandria in 2010 will help SMEs to invest in IT

Market Growth And Drivers

IT spending bounced back strongly

throughout the region in 2010 There is a

strong correlation between economic

growth and IT spending, and many

countries in the region, such as Qatar, are

forecast to report robust economic

expansion in 2011 However, in markets

such as the UAE, access to credit remains

a constraint on domestic consumer

demand

Drivers going forward are increasing

economic diversification and strong

spending from non-oil sectors such as

government, financial and enterprise

sectors By 2015, this should be more evident, with IT's share of GDP rising in many countries In Saudi Arabia, for example, government-driven investments in transportation, property constructions and water and power plants will create opportunities for IT vendors In South Africa, despite a drop-off in IT investment associated with the 2010 FIFA World Cup, other major infrastructure and transport projects will provide growth opportunities

In the wake of the political unrest that swept the Arab world in the first half of 2011, government

spending is expected to help address economic concerns that may have underpinned dissatisfaction in some cases In 2011 the Saudi government has announced US$93bn in handouts, including wage

increases, which should boost consumer spending on electronic items such as PCs Prolonged political instability in countries such as Egypt could potentially cause disruptions to distribution networks and have an impact on outsourcing operations

An expected recovery in population growth underpins our IT market growth projections for markets such

as the UAE and Kuwait, which saw an exodus of expat workers in 2009 In particular, strong positive population growth gives Saudi Arabia an advantage, with growth expected to reach 10% by the end of our five-year forecast period

Across much of the MEA region, youthful population demographics, and rising PC penetration will drive growth An evolving retail landscape will also help to stimulate sales, with the traditional domination of smaller stores having been diluted by the appearance of multi-brand electronics sections in hypermarkets and mono-brand stores in malls

IT Market Sizes, US$mn

2011e

e = estimate Source: BMI

Several sectors will offer particular

opportunities for IT vendors

Telecoms liberalisation and a big push

towards broadband penetration are

expected to drive demand for hardware and

systems Banks are implementing solutions

to increase business flexibility and

introduce new services, including Islamic

banking In Israel, spending in two of the

largest IT verticals, defence and

government, proved relatively immune to

the economic situation Another key area

for IT spending in many countries is

healthcare, with several major projects

launched

The highest growing IT market in the

MEA IT market over the forecast period is

expected to be Egypt, with compound

growth of 86% for 2011-2015 There is

room for considerable growth in the

country in the next few years, given the

current low level of computerisation,

which is much higher in the business

sector than in the population at large The

fastest growth among the GCC countries is

forecast to occur in Qatar (57%), where the

decision to award Qatar the 2022 FIFA

World Cup is expected to fuel a wave of

investment in IT products and services

Sectors And Verticals

Hardware will continue to dominate regional IT spending as the number of personal computer users rises steadily over the forecast period This will be driven by growing affordability, government initiatives and the popularity of notebooks There could be a boost from computer hardware tenders preciously delayed

as a result of the economic situation Sales of Microsoft's Windows 7 operating system and new Intel

core technology have the potential to help trigger a new cycle of hardware upgrades, although much will depend on business and consumer confidence

IT Market Sizes, % Of National GDPs

2011e-2015f

e/f = estimate/forecast Source: BMI

IT Markets Compound Growth

2011e

e = estimate Source: BMI

Sales of notebooks are growing roughly twice as fast as desktops in many markets, and netbooks were one of the fastest-growing PC market segments during the global economic downturn However, the growing popularity of tablets is expected to provide a growth area in 2011, after the product category enjoyed a surge of popularity in 2010, fuelled by Apple's iPad Around 190,000 tablets were reported

sold in Saudi Arabia in 2010 With growing 3G penetration in the region, telecoms operators will be an increasingly important channel for portable connectivity devices such as tablets and netbooks

Prices are continuing to fall, and this, along with more credit availability, is bringing computers within the reach of many more people The advance of 'big box' retailing, with larger outlets offering lower prices and more choice, will also stimulate sales

Government programmes in Egypt and Saudi Arabia have made low-price computers available in easy instalment payment schemes Government investment in education and e-services will mean desktop purchases for schools, colleges and government offices

Spending on software as a share of total IT spending is as low as 14% in Egypt and below 20% in a majority of MEA markets As the regional economy improves, more investment is likely to be driven by plans for expansion, rather than merely to realise cost efficiencies Similarly the growing regional

ambitions of South African companies will be a factor driving corporate spending on software in that market

Across the region, however, many businesses remain focused on costs, and software vendors will pitch efficiency gains from virtualisation and cloud computing, as companies focus on return on investment Sales of the Windows 7 operating system have the potential to impact positively on the market, and 2010 should, in any event, see a boost from systems upgrades deferred from 2009

BMI predicts plenty of room for software market growth over the forecast period as numerous untapped

sectors still exist Key verticals will include telecoms, finance, retail, healthcare and the public sector There has been growing demand in the market for applications tailored towards particular verticals

SMEs are likely to lead spending growth, with manufacturing and trading firms seeking efficiencies by making the transition from manual environments to full automation of back-office systems Customer relationship management will be a growth area, and other high-growth categories are set to include business intelligence, storage and security products The security software market is very important throughout the region as increased investments in IT hardware over recent years are now driving spending

on secure content management technologies

There are some challenges for the regional software market One key issue is that of illegal software: across the region, up to 80% of software is counterfeit Another important factor is low income, including the high costs of operating systems such as Windows, which has led to the promotion of open source in countries such as Egypt, championed by IBM and other vendors

Over BMI's five-year forecast period, software-as-a-service (SaaS) business models are expected to

provide a growing opportunity for vendors, with increasing demand for industry-specific applications Government adoption will also be a key driver in many countries such as the UAE, where cloud services are central to the Emirates government's e-Government strategy for the next three years

BMI predicts that demand for IT services will grow strongly during the 2011-2015 period The regional

IT services market is dominated by demand from oil and gas, government, finance and telecoms sectors, which many markets account for more than half of total spending In markets such as Saudi Arabia, most enterprise application spending still comes from segments such as oil and gas and banks However, more projects are expected in segments such as education and health

Currently, IT services' share of IT spending ranges from around 24% to 37% in the MEA countries covered by BMI Support and maintenance account for around one-third of spending on IT services, but

demand for more complex services has increased, with large outsourcing deals in the UAE, Israel and elsewhere There is also demand for services such as hosting, facilities management and disaster

recovery

Vendors have reported an evolution in demand for services, with a shift away from the dominance of product implementation and installation to greater interest in managed services, value-added services, facilities management, hosting and business continuity and disaster recovery Even in less mature markets such as Egypt, larger customers are becoming more demanding in terms of their IT expectations

In both the private and public sectors, MEA organisations are looking for help to utilise efficiencies from cloud computing services such as SaaS and infrastucture-as-a-service (IaaS.) Cloud computing is

becoming viable in markets such as South Africa due to improved and lower-cost bandwidth availability Particular areas of opportunity for cloud computing include government, banking and retailing as

organisations in those fields look to save money on hardware investments

Internet Penetration

e/f = estimate/forecast Source: BMI

Israel Market Overview

The Ministry of Science and Technology has undergone numerous name changes and received its current name following the election of Binyamin Netanyahu's government in March 2009

The ministry's responsibilities include forming a national science and technology policy, coordinating research areas and technological analysis and organisation

The main priorities for the ministry are as follows:

ƒ Establishing a national policy and priorities for R&D;

ƒ Developing scientific and technological infrastructure;

ƒ Establishing and strengthening foreign scientific relations;

ƒ Participating in the establishment of research centres, including regional R&D centres;

ƒ Participating in the development of scientific and technological human resources;

ƒ Increasing awareness of science within the public, especially the youth of Israel;

ƒ Developing digital infrastructure (facilitating access to information);

ƒ Consulting the government and its offices in the area of science and technology

Background

All major vendors have a direct presence in Israel, employing substantial numbers of staff For example,

IBM has its only IBM Global Services regional subsidiary in Petach Tikva and employs around 2,000

staff at its Haifa Labs and various IBM facilities in Rehovot and Jerusalem HP has as many as 4,000

employees and offers services and support through its subsidiary HP-OMS Other vendors such as

Oracle and EDS also have a sizeable presence

Foreign direct investment (FDI) first started to play a key role in Israel's economy in the mid-1990s as the country's high-tech sector underwent a rapid expansion As well as the opening up of the financial and telecoms sectors, the high-tech sector succeeded in attracting large FDI inflows The government's policy

made foreign high-tech companies eligible for government grants covering 38% of the cost of new research and development facilities Today, Israel has more offshore R&D centres of US high-tech companies than any other country

Local companies also have a significant presence in the Israeli IT market, with seven of the top 10 IT services firms being Israeli Major players include Matrix, Ness Technologies and Malam Group, with

Israel typically accounting for 40-50% of their revenues

Government Initiatives

Gov@Net - Government intranet

A cross-government intranet planned to connect more than 80 governmental networks and hundreds of institutes The implementation will create the largest Israeli IP-VPN The project will allow efficient internal communication and resource sharing

Mercava - Government ERP

Mercava is the largest ever IT project implemented in Israel It will gradually replace the assortment of unique legacy systems currently operating in governmental bodies with a central, unified enterprise resource planning (ERP) system running on SAP system software

This project will create a unified language for cross-government activities

Government EIP

This project is intended to promote enterprise portals within the government Since a cross-government portal will be based on information received from the different bodies, the first step involves the construction of a ministry-level portal This portal will draw information from Merkava, ministry-specific operational systems, and intra-government shared resources

Tehila - Government ISP

The Government ISP project has been operational since 1998, providing essential infrastructure for public-government communication

To date, 60% of the governmental bodies have voluntarily joined the project

Shoham - E-commerce infrastructure and service

A central e-commerce service allowing citizens and companies to access a uniform interface to carry out a variety of payments and purchases, including the payment of taxes, fees, fines (VAT, vehicle and driving licence fees, traffic fines), and the purchase of tangible goods (government publications) The service processed more than ILS250mn in its first year

Lehava project

Group of initiatives to help close digital divide

Hardware

The Israeli computer hardware market, including desktops, notebooks, servers and accessories, is

forecast to reach US$2.6bn in 2012, up from US$2.5bn in 2011 The market is expected to grow at a CAGR of 4% over the forecast period to reach US$3.3bn in 2015

BMI upwardly revised its Israeli PC market growth for 2011, consolidating a recovery from the impact of

the economic slowdown, which hit consumer demand for electronic goods Businesses are now investing more to facilitate expansion and development, rather than purely to realise cost efficiencies, but there

should be growth areas In 2010, Israeli computer shipments recorded a solid recovery However, lower average prices meant revenue growth in most segments was flat or slightly negative

As the Israeli economy recovers, enterprise sales could receive a boost from computer hardware tenders previously delayed because of the economic situation Migrations to Microsoft's Windows 7 operating

system and new Intel core technology should stimulate new cycles of hardware upgrades, although much

will depend on business and consumer confidence

The current rate of PC penetration, while high for the region, represents potential for organic growth Household penetration is estimated at around 75% Digital divide issues mean Israel currently has

600,000 children living below the poverty line, only 3% of whom have internet or home PC access, compared with 90% in the top-income group The Israeli government has launched various initiatives to increase computer and internet penetration, including Computer for Every Child, Window to Tomorrow's World, Tapuah (the Israeli Society for the Advancement of the Information Age) and others The level of support, however, has been criticised by some industry insiders as too low

The Israeli IT market is relatively mature, but hardware still accounts for around half of the total market, excluding communications hardware Notebooks are the fastest-growing segment of the market, but in

2008 desktops still took around two-thirds of unit sales Despite strong growth in demand for notebooks

in 2009, the desktop sector is still significant, largely due to business and government end-users

Netbooks were a main driver of PC market growth in 2010 but face competition from other form factors

In particular, smartphones from Palm, RIM, Apple, and other vendors are being offered as alternative

connectivity solutions and often include a Wi-Fi option

Tablet notebooks emerged in 2010, spearheaded by Apple's iPad In October 2010, Apple released the Hebrew-compatible version of its operating system for the tablet, which was expected to boost imports of the device to Israel Previously Israeli users of the iPad were obliged to pay for a less than optimal

Hebrew keyboard application

In August 2010, iDigital, the Israeli importer of the iPad, had announced the availability of the device for

sale in Israel, but, as of October 2010, the cellular companies were still not offering the device The Israel Ministry of Communications had cleared import of the Apple iPad for Israel in April, after previous concerns that iPads were in non-compliance with Israeli wireless standards One Israeli chain was selling the iPad at a retail price of ILS3,800, or around US$1,000, about twice the price of the device in the United States

Other vendors are expected to follow Apple in releasing net tablet devices, which have a form factor between the size of a smartphone and a netbook Tablets are being designed to appeal to consumers who find a smartphone inconvenient for consuming video media or surfing the web, but for whom a netbook is still too big or heavy Tablets are expected to be significantly more expensive than smartphones, but, despite a previous mixed record with this form factor, are seen as a growth area

Another area vendors will watch is the e-reader market Like iPads, Kindles are not yet readily available

in Israel, but that situation is expected to change Currently Amazon, Barnes and Noble, and Apple do

not permit the use of an Israeli credit card at their online bookstores However, Amazon now offers Israeli consumers the ability to download content directly to their PC or Kindle using an Israeli credit card

Software

Israeli software spending is projected at US$1.4bn in 2012, up from US$1.3bn in 2011 The packaged software segment is expected to grow at a CAGR of around 9% over the forecast period In 2010 local IT leader Ness was among those vendors reporting a rebound in Israeli market revenue growth, with the

company's annualised revenue growth increasing in each of the first three quarters

In 2011, the pick-up in demand for systems and upgrades continued in both public and private

sectors, with investments by government organisations such as the Israeli MOD and Israeli Police, and from utilities leader Israel Electric Company 2010 saw vendors winning projects across a range of

sectors from government to energy, financial services, telecoms, and utilities Large organisations

investing in SAP-based systems included the Meitav Regional Water and Sewage Corporation and Israel Direct Insurance (IDI)

Meanwhile, the SME segment, the mainstay of the Israeli business sector, has emerged in recent years as

an important growth area for enterprise systems Spending on enterprise solutions should continue to grow steadily, with reviving or emerging areas of opportunity including security, CRM solutions and business intelligence However, in the current economic climate, vendors will continue to pitch the efficiency gains potentially offered by these applications

Migrations to the Windows 7 operating system should have a positive impact on 2011 sales despite business caution More than 50% of Israeli computer users are estimated to still be using the Windows XP operating system, and this represents a significant potential market, as support for XP will be withdrawn

by 2014

2012 should, in any event, see a boost from systems upgrades previously deferred as a result of the impact

of the economic crisis in public and private sectors Current areas of enterprise demand include

management of Microsoft systems and servers, as well as systems management, basic data management, firewalls, ERP implementation, and CRM CRM is a particularly buoyant area, while in H111 vendors continued to sign up new business intelligence customers

The security software segment is an important opportunity, potentially worth tens of millions of dollars Israel has become more aware of the growing threat and sophistication of cyber attacks and has been encouraging government and private sector organisations to take action Spending is likely to continue across all segments, with security content and threat management the current priorities

Given the current focus on many businesses of controlling costs, the pay-on-demand SaaS model has grown in popularity and spread beyond the initial core application area of CRM The economic crisis may have provided a lasting boost to the SaaS model, particularly as broadband penetration grows More vendors are looking for channel partners to help them offer cloud computing and rented software services

to local organisations

New cloud computing offerings and increased competition in this segment should fuel further demand from users As well as cost savings, businesses will look to boost efficiency and increase flexibility of response to customer needs Large businesses are most likely to put IT applications such as mail, phone systems and document management into the cloud However, enterprise applications that require a high level of customisation, or which are subject to regulatory or data-sensitivity constraints, are more likely to stay on premise

In terms of verticals, the financial sector has been a mainstay of demand, with other key areas including defence and healthcare These three sectors are somewhat immunised against the consequences of the global slowdown Despite the current financial crisis, regulatory compliance and demand for new services will continue to drive IT spending by banks Vendors reported in Q110 that the key financial services segment had started to see demand recovery Similarly, defence spending on new systems is likely to be maintained given the current security situation

Software comprises an important part of Israel's industrial production and exports, with software exports

of US$3bn representing around two-thirds of the value of the entire domestic IT sector Almost all global vendors are active in the domestic market, selling licences alongside integration and applications services Global vendors control more than three-quarters of the market, with SAP in first place In the past, the Israeli SME segment was dominated by local software companies Now international players, including market leaders such as SAP and Oracle, are entering with appropriate software packages Microsoft is also designing a software package for this market segment

Services

The IT services segment is forecast to reach a value of US$2.1bn in 2012, and this is expected to grow at

a CAGR of 9% over the forecast period to reach US$2.9bn in 2016 In 2011, vendors reported a

continued flow of new projects in sectors such as government, financial services, homeland security, and utilities Key sectors such as government and financial services had driven a pick-up in growth in

2010 after demand was hit by a slowdown in 2009

In H111, demand for IT services continued to be healthy, according to leading vendors, with new projects across public sector, industrial and financial verticals The defence and homeland security sector was also solid However, much will depend on confidence in the global economic recovery, particularly in key Israeli export markets Vendors have had to adapt to an environment where some projects are

commissioned more in response to immediate needs and with a focus on cost reduction

Defence and government spending represent a significant component of Israeli IT demand and have some immunity to economic vicissitudes In Q410, the Ministry of Defence awarded a US$6mn IT contract, and in Q111 the same department awarded a US$10mn contract for a new command and control system Among other smaller government projects in 2011, the Israeli Police awarded a US$6mn contract

Vendors reported that in 2010 demand had revived in the key financial services vertical, where new projects included an US$11mn IT outsourcing tender by the First International Bank of Israel

Government agencies were also commissioning or extending IT contracts, including a US$2.6mn

outsourcing contract extension awarded by Israel's Ministry of Environmental Protection Meanwhile, Healthcare and Utilities were also generating outsourcing projects This continued into H111 with the award of a US$17mn deal by Israel Electric Company The development of a natural gas sector should be one driver of opportunities in the utilities vertical

The relatively robust economy and increased investment by several key sectors have driven recent

growth, but the number of new projects decelerated in 2009 owing to the economic slowdown Public sector spending helped to prop up demand, however Among public sector organisations tendering IT outsourcing contracts in Q409 were the Israeli Ministry of Immigration Absorption and the Israeli

Ministry of the Interior

Growth is expected to reach a higher trajectory in the second half of our five-year forecast period Key Israeli IT services spending verticals include the financial sector, where international regulatory

compliance and structural and market reforms have driven substantial IT investment The sector accounts for around 25% of total IT services spending, while the government accounts for another quarter

Along with defence, these two key sectors are likely to be a continued source of opportunity because the factors driving spending in each case are not particularly sensitive to the economic downturn Indeed, the new administration will likely feel pressure to ramp up government spending to combat lower private consumption and rising unemployment Another key area of opportunity is healthcare IT

One potential demand driver will be organisations looking for help to utilise efficiencies from cloud computing such as SaaS and Infrastructure-as-a-Service (IaaS) Particular areas of opportunity for cloud computing include banking and retailing as organisations in those fields look to save money on hardware investments In 2011, vendors such as Alcatel-Lucent have continued to invest in new cloud computing

facilities in Israel, leveraging the country's expertise

While large organisations still dominate, SMEs have also been investing more and represent a growth opportunity Many SMEs are waking up to the need to compete through more direct investment in support and service infrastructures Similar factors are driving an increase in demand for managed services, with businesses reluctant to invest in internal IT capabilities, or deterred from doing so by a lack of available skills

Outsourcing

Outsourcing has become a bigger factor and was forecast to account for about 20% of IT services

spending, or at least US$320mn, in 2011 Key sectors for IT outsourcing include:

ƒ The military, with outsourcing deals such as that awarded to HP by the Israeli Navy for management of its IT infrastructure highlighting the opportunities there While the value of the

HP deal was not made public, it is estimated to be worth several million shekels

ƒ The financial sector is another leading vertical for outsourcing In 2006, a deal between First International Bank of Israel and EDS Israel was the largest outsourcing contract in the Israeli

banking industry and a milestone at the time Tata Consultancy Services' decision to open a

local branch also underlines the potential attraction of the financial sector, now benefiting from economic recovery and greater security

ƒ The retail sector offers further opportunities, with IBM Israel having a 10-year outsourcing

contract with Clubmarket Marketing Chains The contract includes computer systems for the

supermarket chain's branches and point-of-sale terminals

Although Israel seemingly possesses many advantages as an outsourcing destination (in particular a technologically literate, linguistically skilled workforce and low labour costs relative to most developed countries), the country has failed to capitalise on these strengths in the past Aside from Israel's small size, another issue is security However, the government is now actively promoting Israel to multinationals, and there has been a spate of call-centre construction The work seems to be paying off, with Israel starting to emerge as a desirable location for packaged applications and localisation services

Industry Developments

IT was an important element of the Israeli government's socio-economic policy framework for

2008-2010 The National Economic Council 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 for the government The digital divide is both a symptom and an aggravator

of relative poverty In May 2010, the Israeli Ministry of Finance launched a programme called 'Relative Advantage' to provide a boost to Israel's high-tech sector

Apple iPad Import Cleared for Israel

In April 2010, the Israel Ministry of Communications announced import of the Apple iPad had been cleared for Israel The tablet PC had previously been banned due to its Wi-Fi capability, which according

to the ministry was in non-compliance with the European wireless standards that Israel follows

Previously, Israeli officials claimed the iPad's stronger signal would hinder other device's wireless

capabilities According to news reports, 20 iPads were confiscated by Israeli customs, leading to

confusion among consumers

Leveraging IT For Growth

IT will also be harnessed to the second goal of achieving balanced, long-term economic growth Israel's software sector has long been one of the country's economic pillars and a magnet for inward investment Recently released figures underlined that IT represents a crucial part of Israel's economy The Israeli Association of Electronics and Software Industries projected that the software sector will generate

US$3.2bn annually by the end of the decade The government hoped the high-tech sector would generate US$3.0bn for the nation's economy by 2010

Offshoring

Israel is working hard to ensure it benefits from the global offshoring trend, which it sees as an area of potential Despite an often unstable political and security situation, Israel has marketed its IT skills with some success and attracted outsourcing operations from major IT corporations such as Intel, IBM and Microsoft, as well as Motorola One factor in this, of course, has been incentives that the Israeli

government started to offer back in 2006, with subsidies of up to ILS1,000 per employee per month Several major public and private sector outsourcing deals have also highlighted the growing importance

of outsourcing

However, there are fears of a skills bottleneck In 2007, the government said Israel hoped to produce 10,000 engineers a year by 2010, up from the present graduation rate of 4,900, a small number by the standards of China, India and the US, but a big challenge for Israel The number of jobs in the sector rose

to around 61,000 in 2006, according to the government's Central Bureau of Statistics Engineering

salaries in Israel are about half those in the US but double those in India

HP The government chose Microsoft search technology to power its government services portal, gov.il

Meanwhile, the Israeli government was progressing with its plans to roll out smart ID card systems intended to cover the entire population With an urgent need for the government to update technology and strengthen authentication systems, the original target was to introduce 2.5mn smart ID cards In

December 2008, HP was awarded a contract to produce 5mn ID cards; however, it is yet to receive the go-ahead from the Knesset, which is deliberating over the passing of the biometric database bill The ID cards, set to cost Israel US$67.49mn, would use 'smart' identification methods involving fingerprints and digital photography

The 2005-2007 masterplan of the government's ERP project called for implementation in around 90 government units by the end of 2007 The project leveraged mySAP ERP (content delivery software) and