Billionaires, battles, buyouts and budgets

A year of contrasts for the economy.

By SHARON WROBEL
September 22, 2006 06:24
warren buffett 88

warren buffett 88. (photo credit: )

Looking back on the eve of Rosh Hashana, the economy boasts a remarkable list of corporate deals, scandals and poor people worth mentioning in the book of life, all against the backdrop of the recent war. The judgment, though, is not final and looking ahead to postwar budgetary policy, including defense and social expenditures, the book is far from being sealed. Israel kicked off the year with its strongest first quarter growth in five years as gross domestic product grew 6.6 percent led by surges in consumer spending and investment in fixed assets. High economic growth in the first half laid the groundwork for the market's resilience during the conflict mid-year, which outstripped most expectations. Despite the postwar dents to the economy, growth this year is still expected to top 4%. Citigroup Global Markets this week told investors that early indications about activity in July and August suggested that the economic impact of the war in the North was less than initially feared. On the eve of Lebanon II, the largest corporate deal in Israel's history put the country on the global investment map. During war, foreign and domestic investors continued to pour money into Israel, delivering a vote of confidence in the economy. This week's visit by US investment guru Warren Buffett and his appetite for additional investment in the country reinforced the notion that despite the fact that Israel has just emerged from a major conflict, little can derail enthusiasm for investment here. At the same time, the appreciation of the 'incredible' shekel against the dollar during the time of war helped dampen inflationary pressures in Israel. In the acquisition loop Since the beginning of this year, foreign investors have acquired more than 30 Israeli manufacturing companies, including startups at a value of more than $10 billion. Investment houses and manufacturing associations agree that the continuing acquisitions of Israeli companies during the war represents a vote of confidence in the economy and in the belief that Israel is an attractive place for investment. The Manufacturers Association of Israel still expects that foreign direct investment will more than double in 2006. This investment in real terms is projected to grow by 125 percent over 2005, to between $12b. and $13b. Buffett put Israel on the investment map paying $4b. for 80% of Iscar Metalworking, and not even the war in the North could put a stop to the trend. Israel witnessed two major deals including foreign investors in no less than a week in the midst of the conflict. Mercury Interactive sold off to personal computer giant Hewlett-Packard for $4.5b. in the largest ever hi-tech acquisition of an Israeli company. This was almost immediately followed by the $1.55b. acquisition of Kfar Saba-based M-Systems Flash Disk Pioneers Ltd. by the world's largest maker of memory cards, SanDisk Corp., in a deal where two Israeli-rooted companies merged to create a mobile powerhouse. Meanwhile, international technology firms started operations in Israel and others continued to invest here. Search engine giant Google launched its official operations in Israel this year, including plans for a new research and development facility in Haifa. Not to be outdone, Microsoft, the world's largest software company, announced plans to build a new R&D center in Tel Aviv to add to its R&D facility in Haifa, soon after founder Bill Gates paid his first visit to the Silicon Valley of the Middle East. And while Bill and Buffett braced our shores, fellow billionaire Donald Trump was taking notes. The NY real estate tycoon announced plans to build a 70-story "Trump Plaza Tower," the tallest building in Israel, on the site of the landmark Elite candy factory in Ramat Gan, which he bought for $4m. Public and private flops Not all dreams of deals got the blessing they sought. Dor Alon lost out to Paz Corporation in the tender for the privatization of the Ashdod Oil Refineries in a NIS 3.5b. bid. Dor Alon also had its merger plans with Sonol squashed by the Antitrust Authority. Just this week, Nochi Dankner's dream of being an active partner in the controlling core of the country's largest bank was this week squashed by objections from Bank Hapoalim's controlling shareholder, Shari Arison. Meanwhile, Israel Electric stays in the dark as its employees continue sanctions to halt the electricity market reform. The workers have cut the company's management off from computer, telephone and electricity services, disrupting the work of managers, directors and legal department in the ongoing saga. What's a year without a scandal It also wasn't all rosy for Israeli hi-tech, as stock options gave companies a headache and brought business news to the front pages for all the wrong reasons. At the front of the line of scandals, Comverse Technology's former chief executive officer and chairman Koby Alexander went on the run after being charged in August by the US Securities and Exchange Commission for having engaged in a decade-long fraudulent scheme to grant undisclosed, in-the-money options to himself and others by backdating stock option grants to coincide with historically low closing prices of Comverse common stock - thereby realizing millions of dollars. Back in May, Alexander resigned in the wake of a stock options probe at one of Israel's premier technology companies. In April, Comverse said that it would restate earnings due to the findings of a committee of outside directors that dates of stock-option grants may have been inaccurate. M-Systems attempted to shake off a options backdating investigation that delayed a stock offering planned for this past May. Earlier in the year, Mercury Interactive became embroiled in regulatory probes over its grants of options to top executives. As a result, three of Mercury's top executives left and the company has had to restate its financial statements as far back as 1998. And all wasn't well at Mercury's new parent. Hewlett-Packard's branch in Israel was embroiled in a scandal over a grey marketing affair, which led to the firing of the CEO Gil Rosenfeld and 13 other employees by e-mail. Hewlett-Packard determined that gray market activities were taking place at HP Israel and conducted an internal investigation, alleging HP Israel had sold products designated for the Israeli market to other countries at cheaper prices. Tough TASE, incredible shekel Despite the departure of Ariel Sharon and the war, foreign and domestic investors continued to tap into the Israeli market. The market plunged but recovered fairly swiftly. In January, when Ariel Sharon fell into a coma, the Tel Aviv Stock exchange plunged initially but recovered, while foreign investors did not engage in major selling as the domestic and world-wide sentiment was positive. The TASE benchmark index was only down 2% over the course of the offensive against Hizbullah. In the same time period, the shekel strengthened against the dollar, prompting investment houses to label the currency the "incredible shekel." No one expected it to withstand both the global financial earthquake and local security shock. The resilience was attributed to the prudent fiscal management and structural reforms. Minus the Minus Consumers were forced to show more discipline this year as financial market reforms took effect. As the banks continued to sell off their pension fund units to insurance companies, they also set limitations on customers spending habits. After initial delays in implementing the Bank of Israel initiative, customers set their overdraft limits and bit their lips at the end of each month. Or they went to alternative sources of credit as more options for revolving credit hit the market. Consumers were also faced with more choices in the telecommunications market as Bezeq faced real competition for the first time from HOT Telecom. While other companies also received fixed-line license, it was HOT who made the real ground on Bezeq market share as it introduced triple play - all in one television, telephone and Internet - packages to the country for the first time. Poverty vs Defense The year ended, however, with debate that will continue through the next. In the midst of the war, which re-awoke the need for higher defense spending, the 2005 poverty report for 2005 was published in August, which showed that the number of poor people in Israel has risen. With economic growth and a higher rate of employment among the poor, the report called into question the value of growth as a catalyst for reducing poverty. Since the number of poor people in Israel is continuing to rise and the costs of the fighting in the North are ballooning, economists and politicians alike are even more divided over the question of how the government should rearrange its priorities to tackle poverty. For global investment houses such as Citigroup, the key risk for Israel's credit rating outlook would be the possibility of a bigger rise in the budget deficit than the one outlined in the 2007 budget draft adopted by the Cabinet. While the present government was elected on the basis of its civil and socioeconomic agenda, all eyes turn to its presentation of the budget to the Knesset for passing. As that debate rages on and the government surplus diminishes, the economy nevertheless continues to impress. With a year of contrast complete, how it builds on that growth remains to be seen. Avi Krawitz contributed to this report.


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