Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. 2009 ANNUAL REPORT
CHAPTER A - OVERVIEW OF THE ENTITY'S BUSINESS CHAPTER B - DIRECTORS' REPORT CHAPTER C - 2009 FINANCIAL STATEMENTS
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
______________ 2009 ANNUAL REPORT CHAPTER A OVERVIEW OF THE ENTITY'S BUSINESS
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd.
2009 Annual Report
Chapter A Overview of the Entity's Business
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TABLE OF CONTENTS CHAPTER 1: GENERAL ........................................................................................................................ 5 CHAPTER 2: DESCRIPTION OF THE GENERAL DEVELOPMENT OF THE CORPORATION’S BUSINESS .............................................................................................................. 8 1.
The Corporation’s Activities and a Description of the Development of its Business ....................... 8 1.1
General ..................................................................................................................................... 8
1.2
Holdings Chart ......................................................................................................................... 8
1.3
Year and Form of Incorporation ............................................................................................ 10
1.4
Changes in the Corporation’s Business ................................................................................. 10
2.
Fields of Activity ............................................................................................................................. 11
3.
Investments in the Corporation’s Capital ........................................................................................ 11 3.1. General ................................................................................................................................... 11 3.2
Options ................................................................................................................................... 11
3.3
Shares Held by Company Employees .................................................................................... 12
3.4
Changes in Holdings of Interested Parties ............................................................................. 13
3.5
Table summarizing data on interested party holdings ........................................................... 15
4.
Distributions of Dividends .............................................................................................................. 17
5.
Financial Data on the Corporation’s Fields of Activity .................................................................. 18
6.
5.1
Nature of Consolidation Adjustments .................................................................................... 19
5.2
Explanation of Developments Occurring in the Fields of Activity ....................................... 19
General Environment and Effect of External Factors with Regard to the Company ...................... 19 6.1
Traffic in the International Aviation Industry ........................................................................ 19
6.2
Movement in the Israeli Aviation Industry ............................................................................ 20
6.3
Fluctuations in Jet Fuel Prices ............................................................................................... 20
6.4
Foreign Currency Rate Fluctuations ...................................................................................... 20
6.5
Interest Rate Fluctuations....................................................................................................... 21
CHAPTER 3: DESCRIPTION OF THE CORPORATION’S BUSINESS BY FIELD OF ACTIVITY............................................................................................................................................... 22 7.
The Field of Passenger Aircraft....................................................................................................... 22 7.1
General Information on the Field of Operations .................................................................... 22
7.2
Services in the Field of Operations ........................................................................................ 44
7.3
Analysis of Revenues and Profitability from Services .......................................................... 49
7.4
New Services ......................................................................................................................... 49 a-2
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7.5
Customers .............................................................................................................................. 51
7.6
Marketing and Distribution .................................................................................................... 51
7.7
Reservations Backlog ............................................................................................................. 54
7.8
Competition............................................................................................................................ 54
7.9
Seasonality ............................................................................................................................. 56
7.10 Productive Capacity ............................................................................................................... 56 7.11 Aircraft Fleet .......................................................................................................................... 58 8.
Cargo Aircraft Field ........................................................................................................................ 61 8.1
General Information on the Field of Operations .................................................................... 61
8.2
Services in the Field of Operations ........................................................................................ 66
8.3
Analysis of Service Revenues and Profitability..................................................................... 67
8.4
New Services ......................................................................................................................... 68
8.5
Customers, Marketing and Distribution ................................................................................. 68
8.6
Reservations Backlog ............................................................................................................. 68
8.7
Competition............................................................................................................................ 68
8.8
Seasonality ............................................................................................................................. 70
8.9
Productive capacity ................................................................................................................ 71
8.10 Aircraft Fleet .......................................................................................................................... 72 8.11 Raw Materials and Suppliers ................................................................................................. 73 9.
Details on the Two Fields of Operations ......................................................................................... 74 9.1
Fixed Assets and Installations ................................................................................................ 74
9.2
Insurance ................................................................................................................................ 76
9.3
Intangible Assets .................................................................................................................... 77
9.4
Human Resources .................................................................................................................. 77
9.5
Raw Materials and Suppliers ................................................................................................. 98
9.6
Working Capital ..................................................................................................................... 99
9.7
Investments .......................................................................................................................... 102
9.8
Financing.............................................................................................................................. 106
9.9
Taxation ............................................................................................................................... 109
9.10 Environmental Issues ........................................................................................................... 110 9.11 Restrictions and Regulation on the Corporation’s Business ................................................ 115 9.12 Material agreements ............................................................................................................. 141 9.13 Cooperation Agreements...................................................................................................... 142 a-3
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9.14 Legal Proceedings ................................................................................................................ 142 9.15 Goals and Business Strategies ............................................................................................. 147 9.16 Developments Projected for the Coming Year .................................................................... 149 9.17 Financial Data on Geographic Segments ............................................................................. 150 9.18 Discussion of Risk Factors................................................................................................... 150
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CHAPTER 1: GENERAL
El Al Israel Airlines Ltd. is pleased to present a description of the Corporation’s business for the fiscal year ending December 31, 2009, surveying the Corporation in general and the development of its business, as they occurred during 2009. The report was prepared in accordance with the Securities Regulations (Periodic and Immediate Reports)-1970. The financial data included in the report is in U.S. dollars, unless stated otherwise. The financial data relating to monetary claims are in Israeli shekels (“NIS”) as of the date the claim was filed, unless stated otherwise. The percentages of ownership are presented in numbers rounded out to the nearest whole percent, unless stated otherwise. Data appearing in this report are correct as of the report date, unless stated otherwise. Data appearing in this report as correct as of a date close to the approval of the report, have been updated to March 18, 2010, unless stated otherwise. The importance of the data included in this Periodic Report, including the description of material transactions, has been assessed from the Company’s point of view, while in some cases additional descriptive information is given in order to provide a comprehensive picture of the matter being described. This chapter, which deals with a description of the Group, its development, businesses and fields of activity, also includes Forward-Looking Information, as defined in the Securities Law, 1968. Forward-Looking Information is information that is uncertain as to the future, based principally on existing Company information at the reporting date and includes estimates, assumptions or intentions of the Company, as of the report date, as well as estimates and forecasts of third parties, which might not be realized or only partially realized. Therefore, actual results, in full or in part, could be significantly different, positively or negatively, from the results estimated, derived or implied from this information. In certain cases, sections containing Forward-Looking Information can be identified by the use of certain words, such as "estimates", "perceive", "expects", "forecast", etc., but it is possible that this information will also appear with other expressions. Glossary For convenience purposes, in this Periodic Report, the following capitalized terms will hereinafter have the meaning below: Directors’ Report -
The report of the Board of Directors on the state of affairs of the Corporation’s business for the year ended December 31, 2009.
Dollar -
U.S. dollar.
Stock Exchange -
The Tel-Aviv Stock Exchange.
The Financial Statements -
The consolidated financial statements of the Company for the year ended December 31, 2009, unless stated otherwise.
The State -
The State of Israel.
The Group -
The Company and its subsidiaries.
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The Authority -
The Securities Authority.
The Corporation or the Company or El Al -
El Al Israel Airlines Ltd.
Fifth Freedom -
Transport of passengers or cargo between two countries by a carrier from a third country. For example, El Al transports cargo between Liège and NY.
Sixth Freedom -
Transport of passengers or cargo between two foreign countries with a stopover in the country of the air carrier. For example, a flight of a European airline from Israel to the U.S. via an airport in the airline's country.
Companies Law -
The Companies Law-1999.
Government Corporations Law -
The Government Corporations Law-1975.
Securities Law-
The Securities Law-1968.
IATA-
The International Air Transport Association.
Report Date -
December 31, 2009.
K’nafaim -
K’nafaim- Holdings Ltd.
Date Immediately Prior to the approval of the Report -
March 19, 2009, unless stated otherwise.
Sun D’Or -
Sun D'Or International Airlines Ltd.
Income Tax Ordinance -
Income Tax Ordinance (New Version)-1961.
NIS -
New Israeli shekel.
Reported Year -
2008.
The 2003 Prospectus -
The prospectus published by the Company on May 30, 2003, as amended on June 3, 2003 and June 4, 2003.
The Shelf Prospectus -
The shelf prospectus published by the Company on May 30 2008.
ASK -
Available Seat Kilometer - number of seats offered for sale multiplied by the distance flown.
ATK -
Available Ton Kilometer - the available capacity for transport of passengers (translated into tonnage) and cargo multiplied by the distance flown.
RPK -
Revenue Passenger Kilometer - number of paying passengers multiplied by the distance flown.
RTK -
Revenue Ton Kilometer - the weight in tonnage of paying passengers
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and cargo multiplied by the distance flown. FTK -
Freight Tone Kilometer – the weight in tonnage of cargo (including mail) multiplied by the distance flown.
PLF -
Passenger Load Factor – occupancy rate in passenger flights (percentage of seats occupied)
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CHAPTER 2: DESCRIPTION OF THE GENERAL DEVELOPMENT OF THE CORPORATION’S BUSINESS
1.
The Corporation’s Activities and a Description of the Development of its Business 1.1 General The Group is engaged primarily in the air transport of passengers and cargo (including baggage and mail) between Israel and foreign countries, by means of passenger aircraft and cargo aircraft. The passenger aircraft of the Company carry out scheduled flights as well as charter flights. The Company serves as the designated air carrier of the State of Israel on most international routes that operate to and from Israel. See Section 7.1.1, 7.1.2, 7.1.10 and 9.11.7.2 below for more on this subject and on the term “Designated Carrier”, and on the Government's decision regarding "Open Skies". The Group is engaged in activities auxiliary to its air transport activity, such as sale of dutyfree products, production and supply of food primarily to its aircraft, and in the leasing of aircraft, providing security services, regular maintenance and overhaul services to aircraft of other airlines at Ben-Gurion Airport (“BGN”) and management of travel agencies abroad. The business environment in which the Company operates is the sector of international civil aviation and tourism to and from Israel, which are characterized by seasonal fluctuations and a high level of competition, which becomes more severe during periods of excess capacity. In the area of passenger transport, in 2009 the Company competed with 2 Israeli airlines (Arkia and Israir), 53 foreign scheduled airlines, and over 50 international charter companies, of which 30 operate regular flights. The airlines compete in various areas, principally: fares, frequency and flight times, operational punctuality, equipment type, airplane configuration, passenger service, etc. The competition is with the airlines that maintain scheduled flights between different destinations, charter flights between those destinations and/or Sixth Freedom Flights (irregular flights via stopover destinations in the mother country of those companies). In the field of cargo transport, in 2009 The Company competed with six airlines which operate cargo planes in flights to and from BGN, in addition to C.A.L. Cargo Airlines Ltd. Additionally, the Group competes with most of the scheduled airlines that operate passenger airplanes and transport cargo in their holds. See Sections 7.8 and 8.7 for more on competition
.
1.2 Holdings Chart In the report year, a change occurred in the Company's holding structure after the sale of the Company's stake in subsidiary Sabre Israel Travel Technologies Ltd. (for further information see Item 9.7.2.(i) below. The following is a chart of the structure of the Company’s holdings in investees active as of the date immediately prior to the approval of the report (the percentages listed in the chart express the Company’s holdings in the investee companies):
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Sun D'Or 100%
Tamam 100%
Katit 100%
Superstar Holidays Britain 100%
Bornstein Caterers USA 100%
ACI 50%
Tour Air (Airtour) 50%
Sabre 49% [Until October 1 2009]
Kavei Chufsha 20%
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1.3 Year and Form of Incorporation El Al Israel Airlines Ltd was incorporated as a limited liability company on November 15, 1948 under the name of El-Al Israel Airlines Ltd. changing its name to its present name on May 16, 1951.
1.4 Changes in the Corporation’s Business Until June 6, 2004, the Company was a “Government Corporation” in the process of “privatization” (as these terms are defined in the Government Corporations Law). See Section 9.11 below, “restrictions and regulation of the corporation’s business”, for additional details. In the context of the procedures for privatization of the Company, on May 30, 2003, the Company and the State published a prospectus, by means of which shares of the Company and options exercisable into shares of the Company were issued and sold. Within the framework of the prospectus, the State also offered shares and options to purchase shares from two series – call options (Series A) and call options (Series B). On the prospectus issue date, the State had held approximately 97.25% of the Company’s issued share capital. Immediately after issuance of the securities pursuant to the prospectus, the State's holdings in the Company dropped to 85% of the Company's issued share capital (undiluted). On June 6, 2004, after having purchased shares of the Company and due to the exercise of options by the public, the holdings of the State decreased to under 50%. Therefore, the Company was converted from a “Government Corporation” to a “Mixed Company”, as the meaning of this term is defined in the Government Corporations Law. Following the exercise of further options on December 23, 2004, the holdings of K’nafaim rose to approximately 40% of the issued share capital of the Company. On January 6, 2005, the majority of the members of the Board of Directors were replaced when the meeting of the Company’s shareholders, convened at the request of K’nafaim, decided to appoint new board members. At the same time, the State announced the end of the term of all directors who were not public directors, who had been serving as of that date on the Company’s Board of Directors. Close to the date of approval of the report, there are 12 members serving on the Company's Board of Directors (including two public directors). As K’nafaim holds Company shares at a rate exceeding that held by the State, the special provisions detailed in Section 108 of the Company’s Articles of Association ceased to apply. See Section 9.11.2(k) below for additional details. To the best of the Company's knowledge, the State still holds shares of the Company (which according to the last report the Company has, is at a rate of 1.1% of share capital), and therefore, the Company still has the status of "mixed company". Likewise, the State holds a Special State Share (for information on the Special State Share and its related rights, see Section 9.11.9 below).
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2.
Fields of Activity The Group’s headquarters functions on an integrated basis in the fields of activity listed below, including financial management, procurement, human resources, legal counsel, information infrastructures, security, maintenance, engineering, marketing and advertising as well as in ground operations and construction. The Group has two reported operating segments. For further information, see Note 37 to the December 31 2009 Financial Statements. (A) Air Transport in passenger aircraft In this field, the Group transports passengers as well as cargo (including mail and baggage) in the holds of passenger aircraft, as well as providing auxiliary services, such as sale of duty free products and passenger aircraft leasing. Revenues from this field of operations represented approximately 90% of total Group revenues for 2009. (B) Air Transport in cargo aircraft In this area, the Group transport cargo in cargo transport aircraft as well as providing auxiliary services, such as leasing cargo aircraft. The revenues from this field of operations represented approximately 3.5% of total Group revenues for 2009. Other than the fields of activity detailed above, the Group has additional activities that are not included in these fields, which are not material to the Group’s operations1 and with total revenues representing about 6.5% of total Group revenues for 2009.
3.
Investments in the Corporation’s Capital 3.1. General In 2009 and 2008, no investments were made in the Corporation’s capital. It should be noted that in 2007, the Company's shareholders’ equity increased by $63,203 thousand , due to the exercise of options to Company shares and due to deposits by the State in the severance fund of Company employees. See Section 9.4.8 for details regarding the State's obligation to cover the deficit in the severance pay fund of Company employees. On May 30 2008, the Company published a shelf prospectus based upon of the Company’s December 1 2007 Financial Statements and the Company's December 31 2007 and December 31 2008 financial statements were restated.
3.2 Options On February 26, 2006, the Board of Directors of the Company resolved to adopt a 2006 option plan for employees and executives of the Company (hereafter: "the 2006 Options Program"). 17,092,129 options were issued to some 50 offerees, of which some 10 were senior executives of the Company and some 40 other Company executives. On May 23, 2006, the Company's Board of Directors resolved on the addition of 3,000,000 options to the pool of options for issuance pursuant to the 2006 Options Program. In addition, the Board of Directors appointed the Human Resources and Appointments 1
The production and supply of meals for flight passengers, providing security services, regular maintenance services and overhaul services to aircraft of other companies at BGN and management of travel agencies abroad.
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Committee of the Company's Board of Directors as the Administrator of the 2006 Options Program and authorized the Committee to grant options to executives of the Company in accordance with the guidelines stipulated by the Board of Directors. In addition, the Board of Directors approved the publication of an outline, which was published on May 29, 2006. Following that, on December 27, 2006, the Human Resources and Appointments Committee of the Board of Directors of the Company decided to grant 3,072,536 options to nine Company executives (of whom two are officers), which were granted in practice on December 31, 2006. On November 20, 2007, the Company's Board of Directors resolved to publish an outline (which was published on November 21, 2007) for the issue of options, which returned to the pool of options that can be allotted pursuant to the terms of the 2006 Options Program, from the original quantity as detailed in the outline from February 26, 2006 and as amended on March 15, 2006 and/or from the additional quantity detailed in the outline from May 29, 2006, totaling 3,382,843 options (hereafter: "2007 Options Program"). Likewise, the Board of Directors allotted 2,195,852 options to six offerees (one of whom is an officer), if the requisite approvals are obtained. The allotment in question was executed on December 26, 2007. As of December 31, 2009, the total options granted under the 2006 and 2007 Options Programs (as described above), after deducting the options returned to the pool for any reason that complied with the program, amount to 15,244,950 options. In 2009 the Company registered a benefit value of $634,000 due to the option plans in question, as salary expenses registered against a capital reserve, this according to benefit value calculations prepared using economic models. On January 1 2010 the first batch of options that was issued to executives according to the 2006 option plan, and which vested on January 1 2007 and was not exercised by them, was cancelled. On April 30 2009, the Company’s Audit Committee and Board of Directors approved a private allocation of 4,650,000 options to the Chairman of the Board of Directors, Mr. Amikam Cohen. The issuance and the terms of the employment of the Chairman of the Board were ratified at the General Meeting of the Company's shareholders held June 24 2009. On January 6 2010, the Audit Committee and the Company's Board of Directors approved a private allocation of 9,914,382 options to the Company's CEO, Mr. Elyezer Shkedi. For information regarding the option plan in question, see Note 30.i to the December 31 2009 Financial Statements.
3.3 Shares Held by Company Employees Pursuant to the prospectus, the State granted “Eligible Employees” (as defined in the prospectus) the right to purchase 34,685,642 shares of the Company that had been owned by the State (hereinafter: “the Employees’ Shares”). The Employees’ Shares were offered to the Eligible Employees at a price of NIS 0.91 per share. The Eligible Employees purchased approximately 0.5% of the issued share capital of the Company in the framework of the tender offer (approximately 0.4% fully diluted). The State has also committed to sell to an employees' association, or to employees as individuals, the remaining Employees’ Shares not purchased by Eligible Employees (“the Remaining State Shares”), at the lower of two prices: 30% of the average closing price of
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the Company’s shares on the stock exchange during the 90 trading days preceding the exercise date, or NIS 1.30 per share. On February 23, 2005, the employees’ association (Holdings in Trust for El-Al Employees Ltd.) acquired all of the remaining State shares (32,527,216 ordinary shares), for a price of NIS 0.39 per share. As of December 31 2009, the employees' association holds 31,972,661 ordinary shares, representing 6.25% of the Company's issued share capital (6.04% on a fully diluted basis). Sundry restrictions apply to the sale of the shares that are held by the employees’ association2.
3.4 Changes in Holdings of Interested Parties As of December 31, 2009, K’nafaim owns approximately 39.33% of the issued capital of the Company, on an undiluted basis, and approximately 38.01% of the Company’s issued capital on a fully diluted basis. As of March 18, 2010, the holdings of K’nafaim in the Company have remained unchanged The assumptions for the calculation of the percentages of ownership of capital and voting rights on a fully-diluted basis (above and hereafter: “Full Dilution”) are: exercise of all the executives' options under the 2006 and 2007 Options Programs, including the options granted the Chairman of the Board of Directors, Mr. Amikam Cohen and the Company CEO, Mr. Elyezer Shkedi, as detailed in 3.2 above (see Section 3.2 for details on the 2006 and 2007 Options Plans). Presented below are details of transactions with respect to interested party holdings that were executed over the past 2 years: • As reported by the Company, on September 24 2008 A.L. Aviation Assets (hereinafter: "A.L. Aviation Assets"), a privately-owned company the issued capital of which is held in equal portions by Lenders' Assets Ltd., a Company controlled by Yehuda (Yudi) Levi, who serves as Deputy Chairman of the Company's Board of Directors, and Miella Venture Partners, a company fully owned by a foreign-based trust the beneficiaries of which are the members of the Effi Arzi family, became an interested party in the Company. A.L. Aviation Assets conducted several purchases and sales of shares (as reported by the Company), and in February 2009, purchased 1,500,000 shares in an off-exchange transaction at a price of NIS 0.865 per share. On September 15, Lender's Assets announced that it had become a Company interested party after purchasing 1,755,036 in an off-exchange transaction. On October 11 2009, Lender's Assets informed the Company that it had ceased serving as an interested party after transferring all of its holdings to A.L Aviation 2
The following restrictions apply to the shares held by the employees’ Company (in addition to the provisions of law on tax issues): (A) No transaction or proceeding will be made in the shares and no power of attorney or transfer document will be conferred for a period of 24 months from the date that each purchase was completed; (B) At the end of the aforementioned blockage period, the remaining shares will not be marketable and/or realizable, pledged and/or used as collateral in any manner, except by the employees’ association in the context of the bylaws of the employees’ association and/or after their release to the employee, as specified in the bylaws of the employees’ association. (C) In accordance with the bylaws of the employees’ association, the employees of the Company and the subsidiaries have the right to sell the Company shares held for them by the association at the end of the blockage period, should any of the following occur: (1) with their retirement from work and the termination of the employee-employer relationship between them by their employer, in accordance with the bylaws of the employees’ Company; (2) under other circumstances that are itemized in the bylaws of the employees’ Company, such as a sale between Company employees, or upon the occurrence of exceptional personal circumstances; (3) in each year, beginning from the end of five years, the beginning of which is after the period of blockage within the framework of the prospectus has terminated, up to 20% of the shares held for him by the employees’ Company, in a manner so that by the end of the tenth year, he may sell all of his shares.
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Assets in an off-exchange transaction. As of March 18 2010, A.L. Aviation Assets holds 7,318,704 shares, which constitute 1.48% of the Company's issued capital on an undiluted basis, and 1.40% of the Company's issued capital on a fully diluted basis. • In July 2009 Phoenix Holdings Ltd. (hereinafter : "Phoenix Holdings") informed the Company that it had become a Company interested party due to accumulating holdings of Phoenix Group companies (hereinafter : "the Phoenix Group"), including the Delek Group Ltd. (hereinafter: "the Delek Group") and Excellence Investments Ltd. (hereinafter: "Excellence Investments"). As of December 31 2009 Phoenix Holdings held 2.03% of the Company's undiluted issued capital and 1.96% of the Company's fully diluted capital. As of March 18 2010 Phoenix Holdings holds 8,997,260 shares constituting 1.81% of the Company’s undiluted issued capital and 1.73% of the Company's fully diluted capital. Phoenix Holdings holds Company shares through a participating insurance account as well as provident funds and provident fund management companies. As of December 31 2009, the Delek Group held 3.60% of the Company’s issued undiluted shares and 3.45% of the Company's fully diluted shares. As of March 18 2010, the Delek Group holds 17,868,380 shares, constituting 3.60% of the Company's undiluted issued capital and 3.43% of the Company's fully diluted capital. As of December 31 2009 Excellence Investments holds 1.55% of the Company's undiluted issued capital and 1.49% of the Company's fully diluted issued capital. As of March 18 2010 Excellence Investments holds 8,124,880 shares constituting 1.64% of the Company's undiluted issued capital and 1.56% of the Company's fully diluted issued capital. Excellence Investments holds Company shares through a nostro account as well as through joint trust investment funds. Note that according to the immediate report issued by Phoenix on July 28 2009, the Phoenix Group became a Company interested party in December 2007 but due to technical difficulties in locating the aggregate holdings rate that made the Phoenix Group a Company interested party such notice was not provided the Company by the Phoenix Group. On March 10 2010, the Delek Group received the approval of the Special State Share, as required by the Company's Articles of Association, to hold, directly and through corporations under its control, Company shares at over 5% (but under 15%) of the Company's issued stock capital. • As reported by the Company, on January 5 2009 the Company's CEO Mr. Chaim Romano was added as a Company interested party by virtue of his holdings in the Company. Mr. Romano carried out several stock purchase activities (as reported by the Company). As of December 31 2009, Mr. Romano held 0.06% of the Company's issued capital on an undiluted basis and 0.06% of the Company's issued capital on a fully diluted basis. Starting January 1 2010 Mr. Chaim Romano has ceased to serve as a Company interested party, as a result of the conclusion of his tenure as Company CEO on this date. • Over the course of 2009, the Ginsburg Group3 conducted several purchase and delivery actions as reported by the Company. In February 2009, the Ginsburg Group sold 1,500,000 shares in an off-exchange transaction at a rate of 0.865 NIS per share. As of December 31 2009, the Ginsburg Group held 6.85% of the Company's undiluted capital and 6.62% of the Company’s fully diluted capital. As of March 18 2010, the Ginsburg Group holds 33,968,510 shares constituting 6.85% of the Company’s undiluted capital and 6.52% of the Company's fully diluted capital. 3
"The Ginsburg Group" means the I. Hillel & Co. Group, a company fully owned by Mr. Pinchas Ginsburg, a Company director, along with individuals of the Ginsburg family.
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• Over the course of 2008, Ms. Tamar Mozes-Borovitz (Deputy Chairperson of the Company's Board of Directors and Company controlling shareholder) conducted several stock purchase actions. As of December 31 2009, Ms. Tamar Mozes-Borovitz held 0.07% of the Company's issued undiluted capital and 0.07% of the Company's fully diluted issued capital. As of March 18 2010 Ms. Tamar Mozes-Borovitz holds 593.431 shares constituting 0.12% of the Company’s undiluted issued capital and 0.11% of the Company's fully diluted issued capital. • On February 25 2008 the Company was informed that the Holdings in Trust for El-Al
Employees Ltd. (hereinafter: "the Employee Corporation") sold 645,400 shares on the stock exchange between August 2007 and January 2008. In addition, over the course of 2009, the employee corporation conducted several sales actions, as reported by the Company. As of December 31 2009 the Employee Corporation held 6.25% of the Company's issued undiluted capital and 6.04% fully diluted. As of March 18 2010 the Employee Corporation holds 30,916,287 shares constituting 6.24% of the Company's undiluted issued shares and 5.93 of the Company's capital fully diluted.
3.5 Table summarizing data on interested party holdings The following is a table summarizing a number of facts regarding the Company’s securities and the holdings of the principal interested parties4: March 18, 2010
December 31, 2009
December 31, 2009
Special State Share
Special State Share
Special State Share
Ownership rate of K'nafaim in issued capital (undiluted)
39.33%
39.33
39.33%
Ownership rate of employees' trust holdings in issued capital (undiluted)
6.24%
6.25%
6.29%
Ownership rate of Ginsburg Group in issued capital (undiluted)
6.85%
6.85%
8.13%
Ownership rate of Mrs. Tamar Borovitz in issued capital (undiluted)
0.12%
0.07%
0.05%
Ownership rate of A.L. Aviation Assets in issued capital (undiluted)
1.48%
1.48%
0.52%
Ownership rate of Phoenix Holdings Ltd. in issued capital (undiluted)
1.81%
2.03%
Ownership rate of Delek Investments and Properties Ltd. in issued capital (undiluted)
3.60%
Holdings of interested parties Ownership rate of the State in issued capital (undiluted)5
4 5
---------3.60% ----------
See Section 9.11.9 below regarding the up to date provisions of the Special State Share. To the best of the Company's knowledge the State holds 1.1% of the Company's issued capital. See 1.4 above.
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March 18, 2010
December 31, 2009
1.64%
1.56%
December 31, 2009
Holdings of interested parties Ownership rate of Excellence Investments Ltd. in issued capital (undiluted)
-------------------6
0.06%
----------
Registered share capital in NIS (excluding a Special State Share)
550,000,000
550,000,000
550,000,000
Issued share capital in NIS (excluding a Special State Share)
495,719,135
495,719,135
495,719,135
Options for the Chairman of the Board, Mr. Amikam Cohen.
4,650,000
4,650,000
----------
Options for the CEO, Mr. Elyezer Shkedi
9,914,382
----------
----------
Executive options under 2007 and 2006 options program7
10,767,424
15,244,950
16,945,533
Ownership rate of departing Company CEO, Mr. Chaim Romano, in issued capital (undiluted) Company Capital
Convertible Securities
Breakdown of the holdings of the Company’s shares as of 31.12.2009:
Knafaim 39.3%
Public 38.7%
Ginsburg Group 6.9%
Delek Group 7.2% Employees’ Trust Holdings 6.3%
6 7
Others 1.6%
As of March 18 2010 the departing Company CEO, Mr. Chaim Romano, is not longer an interested party. After deducting expired options that returned to the pool of options for allotment according to the terms of the program
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Breakdown of the holdings of the Company’s shares as of 18.3.2010:
Knafaim 39.3%
Public 38.9%
Ginsburg Group 6.9%
Delek Group 7.1% Employees’ Trust Holdings 6.2%
4.
Others 1.6%
Distributions of Dividends On November 20, 2007, the Company's Board of Directors resolved to update the dividend policy in the aforementioned manner. Within the scope of the new dividend policy, the Company will periodically distribute dividends, at the discretion of the Board of Directors and subject to the Company's needs. Prior to the above resolution, on December 28, 2005, the Company's Board of Directors resolved to adopt a dividend distribution policy, whereby the Company will strive to distribute dividends, beginning with the 2006 fiscal year and thereafter, of between 20% to 40% of net after-tax earnings in the prior year derived from the Company's ordinary operations, excluding one-time earnings not from current operations and capital gains, this on the basis of the consolidated financial statements. The decision also stated that implementation of this policy is subject to the law and to the assessment of the Company's Board of Directors concerning the ability of the Company to comply with its existing and anticipated obligations from time to time, and to consideration of the Company's existing liquidity, operations and business plans or those anticipated for the future. It was also decided that adoption of this policy does not detract in any way from the authority of the Company's Board of Directors to decide, at any time, to change and/or amend and/or revoke the dividends policy which was stipulated in this decision and/or to approve additional distributions within the permitted limitations by law and/or to decide on the reduction of the rate of dividends to actually be distributed, or to refrain from a distribution due to the liquidity, operations, business and condition of the Company, which may change from time to time. The Company did not distribute dividends in the reported year. The Company distributed dividends in the year preceding the reported period, when on December 30, 2007, the Company's Board of Directors resolved to distribute a dividend totaling NIS 11,571,100 thousand (representing NIS 0.0233418 per share), 1.94% of the issued and paid-up share capital. The dividend was actually distributed on January 21, 2008. On a related note, on March 28, 2005, K’nafaim, the controlling owner of the Company, sent a letter to Bank Leumi stating that “considering the present outstanding debt status of El Al with
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Bank Leumi, and considering the fact that the Board of Directors of El Al is likely from time to time to formulate policies for distribution of profits of the Company, we state that as long as the balance of the existing principal outstanding debt of El Al to Bank Leumi is no less than $50 million, we will not support a resolution to distribute earnings at a rate which exceeds 60% of the balance of retained earnings of El Al available for distribution as they will exist from time to time, other than after consultation with the Bank regarding the percentage in excess of 60% as stated”. Concurrent with this letter, El Al received a letter from Bank Leumi on March 28, 2005, according to which the bank will not consider the conversion of K’nafaim into the controlling shareholder of El Al as an event which entitles the bank to immediate payment of El Al's debt to the bank, conditional upon the terms as detailed in the letter of the bank to the Company, all as detailed in Section 9.8.2.c. below.
5.
Financial Data on the Corporation’s Fields of Activity Starting from the first quarter of 2009, the Company implemented retroactive changes in accounting policy in its Financial Statements deriving from the implementation of new standards and interpretations of International Financial Reporting Standards (IFRS), which came into effect on the Financial Statements dates, including IFRS 8 "Operating Segments", IAS-1 (Revised) "Presentation of Financial Statements, IFRIC 13 "Customer Loyalty Plans" and the revision to IAS 19 "Employee Benefits", in the framework of a project of improvements to IFRS, 2008. For further details see Note 3 to the Company's December 31 2009 Financial Statements. Details of the Company's business segments in the Financial Statements are given based on the fleets of aircraft - air transport by means of passenger aircraft and air transport by means of cargo aircraft. The breakdown into business segments selected by the Company as above is in accordance with IFRS-8, according to which the reporting is according to their reporting to the corporation's chief business manager. The revenue-producing unit is the aircraft or the family of aircraft bearing similar flight characteristics and not the cargo they carry. The passenger aircraft is comparable to a car capable of carrying a certain amount of cargo, but primarily intended for carrying passengers, while a cargo aircraft is comparable to a container, capable of transporting cargo only. Everything located in an aircraft is equally affected by the cost generators (pilots, fuel, capital, air passage fees, parking fees etc.). These factors are a function of the airplane and not of what it carries. In addition, the majority of the operating costs of aircraft carrying cargo in their holds are shared by passengers and cargo – fuel, depreciation, flight crews, air passage fees, communications, landing and parking fees, tarmac and transportation services, security etc. Therefore, the proper business approach is that of the passenger aircraft sector (the holds of which contain a certain amount of space available for cargo) and the cargo aircraft sector. Note also that even when the Company makes decisions regarding aircraft acquisition, the economic considerations for selecting the type of aircraft purchased takes the volume of cargo transportable by the aircraft on its various routes into account. As stated, cargo transport in the holds of passenger aircraft represents part of the operations of passenger aircraft. This activity is auxiliary and a derivative of the operations of transporting passengers in the passenger aircraft and is dependent upon these operations. Thus, for example, the destinations of freight transport in the holds of passenger aircraft are determined by the flight destinations of the passengers in the passenger aircraft. Additionally, the current operations of
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the Company’s activities as carried out by Company management, including the decision as to the feasibility of the operation of a route and the actual departure of a flight, are carried out based on the above operating segments. Nonetheless, it must be noted that one must look at the profitability of the cargo transport field in a broader context that is derived from the cargo transport operations in the holds of passenger aircraft as well, since the cargo transport field carries out commercial and marketing activities complementary to the activities of the cargo transport activities in the passenger aircraft. Allocation of costs not directly assigned to one of the areas is conducted according to economic models currently existing at the Company. In the future, these costs may be allocated according to other economic models employed by the Company at the time. For details regarding the Company’s reported operating segments see Section a.5 of the Board of Directors Report. The cargo fleet is an independent fleet the economic viability of which is studied separately. For further details see 8.10 below. Note that the 747-200 aircraft used by the Company for the activity in question are of a relatively advanced age, which leads to high operating costs, as well as the necessity of dealing with noise limitations in various airports that influence their operation. For further information regarding the changes in the Company's cargo fleet, see 8.1.2 below. For an analysis of revenues and results by operating segments for 2009, 2008 and 2007 and a presentation of revenues by geographic destinations see Note 37b to the 2009 Financial Statements.
5.1 Nature of Consolidation Adjustments The adjustments to consolidate the revenues and costs result from additional activities that are not attributable to the principal fields of operation, primarily maintenance services to other airlines.
5.2 Explanation of Developments Occurring in the Fields of Activity See the clarifications in Section a.1 of the Directors’ Report regarding the explanation of developments in the Company’s operating results during the reporting year compared to previous periods.
6.
General Environment and Effect of External Factors with Regard to the Company 6.1 Traffic in the International Aviation Industry The international aviation industry is affected by the economic and security situation and by unusual events, such as the outbreak of epidemics and natural disasters in the world, in general, and in specific areas in particular. The global financial crisis originating from the sub-prime crisis, which began in the second half of 2007 and the impact of which was felt most strongly between Q3 2008 and the first half of 2009, has also had a significant effect on the airline industry. The crisis has led to a significant drop in international passenger traffic, a decrease in business travel and a sharp drop in cargo shipping orders. This crisis, in addition to the "swine flu" fears that arose in the second and third quarters of 2009, have had a material negative impact on the international aviation industry leading to a crisis in this field.
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Starting from the third quarter of 2009, a process of emerging from the economic crisis and economic recovery have begun, mainly in developing Asian markets, which has accelerated the air cargo sector as well as international passenger traffic. At the same time, yields per passenger are still low, and fluctuations are still noted in jet fuel prices. For further details, see Sections 7.1.3 and 8.1.3 below.
6.2 Movement in the Israeli Aviation Industry The economic crisis in Israel and around the world, as well as Operation Cast Lead, which took place in Israel from late December 2008 to mid-January 2009, led to a decrease in traffic to and from Israel. According to data from the Central Bureau of Statistics, during 2009, 2 million inbound tourists via air were registered (including day visits), a 6% decrease compared to last year. In 2009, 3.6 million outbound Israelis were registered, a 4% decrease compared to 2008. For further details see 7.1.3 below. According to data provided by the Israeli Airports Authority, international passenger movement through BGN dropped 5% in 2009 compared to 2008. In addition, during 2009, a decrease of approximately 15.8%8 was posted in cargo traffic to and from Israel in comparison to 2008. See Section 8.1.3 for details.
6.3 Fluctuations in Jet Fuel Prices Jet fuel is a significant component of the Company’s expenses. The jet fuel prices are characterized by extensive and severe fluctuations. The following data refers to jet fuel prices in the Mediterranean Basin region as quoted by Platts9. During 2009, jet fuel prices fluctuated greatly between a low of 113 cents/gallon registered March 2009 to a high of 205 cents/gallon registered November 18 2009. In total for 200*, jet fuel market prices dropped by an average of approximately 44% as compared to 2008 prices. See Sections 9.5.1 and 9.18.6 below for further details. See Section b.1.(3) to the Board of Directors' Report for additional details on the financial effect of jet fuel prices, including hedging activity.
6.4 Foreign Currency Rate Fluctuations The Group’s results are affected by a number of currencies, particularly the U.S. dollar. Fluctuations in the exchange rate of the dollar vis-à-vis other currencies are likely to cause an improvement or erosion of the Group’s profitability. As of December 31, 2009, there was a decrease of approximately 0.7%, as compared with December 31, 2008 in the exchange rate of the U.S. dollar against the shekel. As of December 31, 2009, there was a decrease of approximately 3.3%, as compared with December 31, 2008 in the exchange rate of the U.S. dollar against the Euro.
8 9
This data is based on Company estimates, after deduction of El Al Sixth Freedom activity through BGN and addition of the Company's mail activity. To the best of the Company's knowledge, Platts is a company from the McGraw-Hill Group that has provided information on the energy industry for over 75 years. The company provides updated information and analyses, among other matters regarding prices and international occurrences in the petroleum, petrochemical, natural gas, electric and nuclear power markets
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The weakening of the dollar vs. various currencies in 2009 negatively affected the Group’s profitability. See Section 9.18.2 below for details.
6.5 Interest Rate Fluctuations The Company took loans in a significant amount at variable interest rates that is based upon LIBOR interest, in order to finance the acquisition of aircraft. A change in the LIBOR interest rate could materially affect the Company’s financing expenses. In 2009, the average LIBOR 3-month interest rate decreased by approximately 77%, compared with its average rate in 2008. During 2008, there was a decrease of about 45% relative to 2007. See Section 9.18.5 for details.
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CHAPTER 3: DESCRIPTION OF THE CORPORATION’S BUSINESS BY FIELD OF ACTIVITY The following is a description of the business of the Group for each of the fields of operation separately, with the exception of matters applying to the overall operations of the Group, which are described collectively in the framework of Section 9 below.
7.
The Field of Passenger Aircraft 7.1 General Information on the Field of Operations The principal activity of the Group in this area is the transport of passengers on scheduled and charter flights. In addition, the Company carries cargo in the holds of its passenger aircraft, an activity auxiliary to the activity of transport of passengers. Additional auxiliary services are associated with the service in this area, including sale of duty free products to passengers. Accordingly, in the context of describing this field of activity, the Company has focused on a description of transport of passengers. Certain matters that relate to the transport of cargo in the holds of passenger aircraft are similar to the service of carrying cargo in cargo aircraft, which are described in Section 8. The following is a description of trends, events and developments in the macroeconomic environment of the Group, which have or are expected to have a material effect on operating results or on the developments in the field of activity, in the following areas: 7.1.1
Structure of the Field of Activity and Changes Occurring Thereof As mentioned, the Company's main field of activity is air transport in passenger aircraft in scheduled flights to and from Israel. By using passenger aircraft, the Company carries both passengers and cargo in the holds of the passenger aircraft. The flight rights under which the State permits one or more “Designated Carriers” to carry passengers on international routes are stipulated in international agreements. Each nation determines an air carrier as a “Designated Carrier” on its behalf to operate the flights and utilize the flight rights. The Company serves as the designated air carrier of the State of Israel for most international routes that operate from and to Israel. See Section 7.1.2 for details on the Company's status as a "Designated Carrier" and State decisions on this issue.
7.1.2
Legislative Restrictions, Regulations and Particular Considerations Applicable to the Field a. General The field of activity of carrying passengers and cargo in passenger aircraft is distinguished by international and local regulatory restrictions in various areas. Among other things, authorization is required for operating a flight from one country to another country. In accordance with international agreements, each nation is permitted to grant authorization for the operation of scheduled flights (appointment as a “Designated Carrier”) to one airline or to a limited number of airlines, as stipulated in the agreement. The number of Designated Carriers that have been appointed between two destinations is likely to have a material effect on competition between those destinations. The frequency of the flights
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and the volume of traffic are also conditional on obtaining consents from the aviation authorities in both countries. Additionally, each flight needs a takeoff or landing slot at the airports to or from which it operates. A commercial and operational license is required in order to operate flights, in accordance with Israeli aviation laws. For further information on Israeli aviation laws see 9.11.2 below. In the context of these licenses, the State sets various restrictions on the holder of the license. In the framework of international treaties and agreements and local legislation, arrangements have been made connected to implementation of the field of activity, which include rules concerning the responsibility of the air carrier for damages caused during the course of international air transport and the responsibility of the air carrier for delays and flight cancellations. Additionally, the Group is committed to operate according to special instructions regarding flight security, which impose additional costs on the Group. In addition, the Group is obligated to maintain a minimal fleet of aircraft, in accordance with the Special State Share (also see Section 9.11.9 for details). In addition to scheduled flights, the Company is also engaged in carrying out charter flights by leasing aircraft capacity to organizers of charter flights at prices agreed on in advance and the sale of blocks of seats to agents. For further details see 7.1.10.(c) below. b. Government Resolution no. 535 on Aviation Policy from 2003 Shortly before publication of the 2003 Prospectus, the Ministerial Committee for Social and Economic Matters decided (decision no. SE/14 dated May 19, 2003) that: A. The Company would continue to serve as the Designated Carrier on all of the routes on which it served as Designated Carrier immediately prior to publication of the 2003 Prospectus, subject to the following conditions: (1) The Company will at all times comply with the directives and obligations stipulated for it and which it had assumed vis-à-vis the State of Israel. (2) The Minister of Transportation will consider revoking El Al's status as the Designated Carrier for a specific route if the number of passengers that fly with the Company on that route are 20% or less than the number of passengers that fly on the same route on scheduled flights, or if the number of El Al scheduled flights on that same route are 20% or less than the number of scheduled flights operated by the Designated Carrier of the destination country, during the period of one calendar year. B. The Ministerial Committee for Social and Economic Matters also stipulated that the Minister of Transportation will consider whether to grant rights to an additional Designated Carrier for scheduled flights on routes, should the number of passengers flying on the Company's scheduled flights on a specified route be 30% less than the total number of passengers of the scheduled flights on that same route for a period of one calendar year10 11.
10
The positions of the Deputy Attorney General (Economic-Fiscal) and of the Legal Counsel of the Ministry of Transportation are that Section 2 of the decision is a clear case in which the Minister of Transportation must use his judgment, and according to the fundamental rules of administrative statutes, it does not contain, anything to restrict his judgment or to prevent him from invoking his authority under any law, including in the matter of a Designated Carrier on a scheduled air route, also under other appropriate circumstances.
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It was also stipulated that, without detracting from the legal authority of the Minister of Transportation, this policy would be considered if and when the volume of outgoing and incoming air passengers to Israel exceeds 10.7 million passengers annually. c. Government Resolution No. 3024 from January 2008 On January 27, 2008, the Government passed Resolution No. 3024: "a. (1) To determine the rate of the State's participation in the burden of security expenses of Israeli airlines at the level of 80% of total direct expenses of their operation of existing and future international routes, oriented towards enabling these companies to contend, to the degree possible, in fair and equal competition, opposite foreign airlines and in view of the great importance in the liberalization of the civil aviation field, while recognizing the need for the existing of strong Israeli aviation. (2) To revoke Government Resolution No. 2325 from 30.7.2002. b. To determine that the rate of participation mentioned in Par. a. above is a continuation to the resolution of the relevant institutions in "El Al" Israel Airlines Ltd. ("El Al"), which recognizes, to the Company's favor, the importance of raising the percentage of the State's participation in the burden of security expenses of Israeli airlines, and accordingly, to change the Government's aviation policy on the scheduled routes, as provided in Section c. below. c. To amend Government Resolution No. 353(KM/14) dated 5.6.2003 regarding the aviation policy of the State of Israel on scheduled routes as below: (1) Instead of Section 1(b) of the Resolution will come: (b) "The Minister of Transportation and Road Safety, within the scope of his jurisdiction regarding aviation policy, as authorized by all laws, will consider whether to grant rights to an additional Designated Carrier on scheduled air routes, and will consider whether to revoke El Al's status as a Designated Carrier on a specific route". (2) Sections 2-3 of the resolution will be revoked. d. To impose on the Minister of Transportation and Road Safety to form an interministerial team with the participation of representatives of the Ministries of Transport and Road Safety, Treasury and the General Security Service, to assess ways to implement the security instructions for Israeli civil aviation. Date of implementation – as specified in the Resolution." d. Implementation of Government Resolution 3024 Government Resolution 3024 as denoted above (hereinafter in this subparagraph: "Resolution 3024" or "the Government Resolution") regarding the increase in Government 11
On May 28, 2003, the Director of the Policy Division in the Ministry of Transportation made it clear that the determination of the percentages of the Company's operation, both in Section 1 and in Section 2 of that decision, means “self-operation” by El Al at the rates stipulated and that the aforesaid in no way eliminates the possibility of operating the route by means of a code-share agreement, but then also, the necessary operation is only that carried out by the Company.
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participation on security expenses of Israeli airlines while amending the 2003 government resolution regarding El Al's status as Designated Carrier mainly consists of two interrelated parts: (a) establishing the State's potion of the airlines' security burden at 80%; (b) amending the aviation policy of the State of Israel for regular routes, as determined in the May 2003 Government resolution, by revoking various threshold demands, which require that the Minister of Transportation and Road Safety ("the Minister of Transportation") consider whether the Company's status as Designated Carrier on a regular route be revoked or a Designated Carrier be added to a certain route in addition to the Company. In practice, Resolution 3024 was only partially implemented, in such a manner so that a. above was not implemented while b. was, as follows: On February 12 2008 Arkia was appointed as an additional Designated Carrier to Paris. On May 22 2008 the Ministry of Transportation announced that it would be allocating additional routes for regular flights to Arkia, Israir and Sun D'Or as part of the Ministry of Transportation's aviation liberalization policy and as a result of the aforementioned decision. According to the announcement, Israir was appointed Designated Carrier to the London and Rome routes, Arkia to the Barcelona and Madrid routes and Sun D'Or to the Antalya, Bratislava and Zagreb routes. In December 2008 Arkia was appointed as an additional Designated Carrier for the Kiev route. This trend continued in 2009, when the Minister of Transportation appointed Arkia, Israir and Sun D'Or as Designated Carriers to other destinations as described below. In January 2009 Arkia and Israir were appointed Designated Carriers on the Eilat and Moscow routes. In February 2009 Sun D'Or received Designated Carrier status to Sochi and Rostov in Russia and Israir was appointed Designated Carrier to Milan. In March 2009 the Ministry of Transportation announced additional appointments of Israeli airlines as Designated Carriers to destinations in Germany: Arkia to Düsseldorf and Munich, Israir to Berlin and Stuttgart, Sun D'Or to Frankfurt and Düsseldorf and C.A.L (cargo transport) to Frankfort and Cologne. In addition, in 2009 Arkia was appointed Designated Carrier to Baku in Azerbaijan and Krasnodar in southern Russia and was granted approval to operate regular flights between Eilat and St. Petersburg, and Israir was appointed Designated Carrier to Basel. In March 2010 Sun D'Or received authorization from the Ministry of Transportation to operate regular flights on the Tel Aviv-Minsk route. As a result of the failure to implement both parts of the decision concurrently, in a manner contrary, according to the Company's claims, to the letter and spirit of the Government Resolution, and as the Company's queries to the Ministry of Transportation and the Ministry of Finance on the matter of the implementation of both portions of the Government Resolution received no response, the Company filed a petition against the Government of Israel, the Minister of Finance, the Minister of Transportation and other respondents ("the Petition") before the Supreme Court, sitting as the High Court of Justice, on May 27 2008. As part of the Petition the Company requested, inter alia, that a temporary injunction be issued against the respondents instructing them to give cause as to why Resolution 3024 has not been implemented immediately and in full. The Company also requested that an injunction be issued preventing the respondents from implementing and/or from continuing to implement Resolution 3024 in a partial manner only, meaning to avoid implementing only that portion of the Resolution dealing with the appointment of additional Designated Carriers, until the Petition is resolved.
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e. Government Resolution 4032 from August 2008 On August 24, 2008, Government Resolution no. 4032 was passed on the subject of the state's participation in Israeli airline security expenses, as follows: 1.
"To revoke Government Resolution no. 3024 dated January 27 2008 (hereinafter "the Resolution") starting January 1 2009 or on the date on which the scope of passengers entering and exiting Israel by air is greater than 10.7 million passengers per year, whichever is later.
2.
Section A of the Decision shall be implemented until its cancellation as stated in Section 1 of this decision, only on flight routes for which an additional listed Israeli carrier has been actively appointed, which has started to operate on the flight route.
3.
To authorize the Ministries of Finance and Transportation and Road Safety to increase the state's participation rate in security costs for Israeli airlines, pursuant to the signing of a global aviation agreement with the EU in accordance with Government Resolution no. 441 dated September 12 2006.
4.
The budgetary expense of Government Resolution 3024, until its cancellation as denoted in Section 1, shall be financed from the Ministry of Transportation's existing budget."
On September 11 2008 the State of Israel, the Minister of Finance, the Deputy Prime Minister and the Minister of Transportation and Road Safety field a preliminary response to the aforementioned Petition ("the State's Response"). As stated in the State's Response, in light of the passing of Resolution 4032 ("the Cancellation Decision"), which alters and limits the incidence of Government Resolution 3024 dated January 27 2008 ("the Original Decision"), the Cancellation Decision significantly alters the grounds upon which the Petition is based and therefore the Court is asked to reject it. On September 18 2008 the Company filed a request to amend the petition ("the Petition Amendment Request"), this in light of the State's response, so that in the framework of the Amended Petition, the Company will ask the Court to issue an order to the respondents, according to which they must provide cause as to why the Cancellation Resolution should not be revoked leaving the Original Resolution - the application of which has already begun - in effect, to be applied by the Government in full, and alternately, if the Cancellation Resolution is to remain in effect, why the situation should not be returned to its previous state prior to the original resolution, including the cancellation of the appointment of other Israeli airlines as Designated Carriers, which was made as a result of the original resolution. An amended petition was filed on December 23 2008, accordingly. f. Government Resolution 4462 from February 2009 On February 1 2009 the Israeli Government passed an updated resolution regarding participation in the security expenses of Israeli airlines (following the resolutions dated January 27 2008 and August 24 2008), as follows: " a.
To increase the participation rate in security expenses in Israeli airlines to 60% from 2009 onward. Implementation of the resolution shall take place immediately following the Knesset approval of the 2009 budget.
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b.
To instruct the Ministers of Finance and Transportation and Road Safety to increase the State's participation in Israeli airline security costs to 75%, immediately after the signing of a global aviation agreement with the European Union ("Open Skies") in accordance with Government Resolution 441 dated September 12 2006.
c.
To instruct the Minister of Transportation and Road Safety to report to the Government, six months subsequent to this resolution, on the progress of the negotiations with the European Union regarding the global aviation agreement ("Open Skies").
d.
Prior to the approval of the 2009 budget, the Budget Controller at the Ministry of Finance will act to submit a budget addition deriving from this resolution for the Government's approval, for the funding on an increase in the State's participation in civil aviation security costs.
e.
The airlines will act to conduct "exchange purchases" in Israel, as much as is possible at rates agreed upon with the Industrial Cooperation Authority.
The implementation in full of the Government Resolutions and their potential impact on the Company's activities and operating results constitute Forward-Looking Information as defined in the Securities Law. The manner and degree to which the Government Resolutions are actually implemented, the receipt of security expenses funding at the updated rate and the appointment of additional Israeli airlines as Designated Carriers for regular flights and the operating of said flights by additional Israeli airlines may be conducted differently than as estimated, among other things due to regulatory limitations, economic limitations resulting from the need to purchase equipment needed to operate additional airlines, contractual limitations involved in the alteration of bilateral agreements or other aviation agreements as well as changes in the national security, economic and geopolitical information and their impact on competition as well as changes in Government resolutions. 7.1.3 Changes in the Volume of Activity and Profitability of the Area (A) International developments According to IATA estimates, international passenger traffic dropped 3.5% in 2009 and the weighted load factor for international passenger flights was 75.6%. According to IATA data, 2009 saw a 10.1% drop in global airline cargo shipping (including in the holds of passenger aircraft), and the weighted load factor for cargo flights amounted to 49.1% only. In December 2009 the IATA published an estimate that despite evidence of emergence from the crisis and the increase in traffic in Q3 2009, due to proceeds remaining low, the rise in fuel prices and low aircraft occupancy, global airlines lost $11 billion in 2009. In March 2010 IATA issued an updated estimate according to which airline losses in 2009 would total in $9.4 billion, as a result of the recovery and increased demand noted in the last few months of 2009 and the beginning of 2010, along with the stability in seat capacity, which was translated into increased yield and an increase in airline revenues.
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By Regional Cross-Section: 2009 versus 2008: Region
Africa
Passengers RPK
ASK
Yearly Change Vs. 2008 -6.8%
Yearly Change Vs. 2008 -3.3%
Cargo PLF
FTK
ATK
69.9
Yearly Change Vs. 2008 -11.2%
Yearly Change Vs. 2008 -3.3%
Asia
-5.6%
-6.3%
73.9
-9.2%
-11.0%
Europe
-5.0%
-4.4%
76.4
-16.1%
-10.7%
South America
0.3%
1.7%
73.0
-4.0%
1.4%
Middle East
11.2%
13.6%
73.3
3.9%
6.8%
North America
-5.6%
-5.4%
79.6
-10.6%
-9.7%
Total
-3.5%
-3.0%
75.6
-10.1%
-8.4%
Asian, European and North American airlines registered drops in passenger traffic of 5.6%, 5.0% and 5.6%, respectively in 2009. While Asian airlines were the first to recover from the economic crisis in the last few months of 2009 (listing an 8% increase in passenger traffic in December 2009), European and North American registered increases in passenger traffic in the first half of the year while no material change was registered in the second half, with a 1.2% decrease registered in European airline passenger traffic and a 0.4% decrease in North American aircraft traffic registered in December 2009. Middle Eastern airlines registered the highest levels of growth, listing a 19.1% increase in passenger traffic in December 2009 and an 11.2% increase in passenger traffic in 2009. This increase probably derives from the fact that these airlines have increased their share in traffic to long-distance destinations passing through their home airports. South Americans airlines registered a 7.1% increase in passenger traffic in December 2009 and a mere 0.3% increase in 2009 as a whole, this as a result of the "swine flu" panic during the second and third quarters of 2009. As a reminder, swine flu was first discovered in Mexico and fears regarding the epidemic's spread mainly hurt South American airlines. African airlines registered a 6.8% drop in passenger traffic in 2009, mainly as a result of the sharp drop in their activity in the first half of 2009. December saw a 3.1% increase in passenger traffic with these airlines. IATA projects that despite the recovery in passenger and cargo traffic that began towards the end of 2009, in 2010 as well the international aviation industry will continue to list losses and the increase in passenger revenues will be low, along with the return to profitability. According to updated IATA projections published March 2010, airlines are expected to lose only $2.8 billion in 2010, this compared to a projected loss of $5.6 billion as per the projection published December 2009. The reasons behind these improved projections are: 9
Increased demand – passenger traffic is expected to increase 5.6% in 2010 (compared to a 4.5% increase in IATA projections from December 2009). Cargo traffic is expected to increase 12% in 2010, a significant increase over the former projection , which predicted an increase of only 7%.
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9
Load factors – over the course of 2009 the airlines adapted their capacity to the drop in demand. The string recovery in demand in the last few months of 2009 and the first few months of 2010 led to improvements in load factors.
9
Yields – a smaller supply along with improving demand conditions, are expected to lead to a 2% increase in yield per passenger and 3.1% in yield per ton of cargo. This is a significant improvement compared to a 14% drop in yield (both passenger and cargo) listed in 2009.
9
Business traffic (premium) – it seems as though business traffic is showing signs of recovery, albeit slower that tourist traffic and still 17% lower than the first few months of 2008.
9
Fuel – IATA projects that the average price per barrel of fuel will reach $79 per barrel (compared to $75 in the December 2009 projection), this as a result of improved economic conditions and the increase in fuel prices.
9
Revenues – according to IATA projections, airline revenues are expected to reach $522 billion, $44 billion more than the previous projection and $43 billion more than in 2009.
The increase demand is influenced by the economic recovery of developing markets in Asia and South America, where increases in passenger traffic of 6.5% and 11.0%, respectively, were registered in January 2010. More moderate increases of 2.1% and 3.1% were registered in North America and Europe. The following table shows the activity of the international aviation industry (regular flights) over the past four years as well as the industry's revenues and earnings throughout the period.
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International operations of the aviation industry and its profitability from the passenger aircraft area12 (scheduled flights) of airlines belonging to IATA: Year
Output
RPK
15
(in Millions) 200916
Annual Change in RPK
14
RTK
(in millions)
Operating revenues 13
Operating Income (Loss)
($ Billions)
($ Billions)
Annual Change in RTK
Before Interest Expenses
After Interest Expenses
-3.5%
2008
2,436,045
2.4%
295,783
0.1%
275.6
2.9
1.0
2007
2,365,964
7.7%
292,247
6%
255.4
9.0
7.1
2006
2,230,135
6%
275,949
5%
232.8
6.1
4.1
2005
2,063.015
8%
255,740
6%
210.7
5.1
3.1
(B) Developments in the Israeli market International passenger traffic to/from BGN totaled approximately 10.5 million passengers during 2009 which represents a decrease of about 5% compared to 2008. Passenger Traffic to and from Israel (from/to BGN)17 Year
Passenger traffic at BGN (Millions of Passenger Legs)
Yearly Change
2009
10.5
-5%
2008
11.0
10%
2007
10.1
15%
2006
8.8
4%
2005
8.4
12%
The table and the graph below reflect the trends of incoming tourist traffic to Israel and the departing residents in recent years18:
12
nd
The source of the data regarding 2005-2008: IATA publications (World Air Transport Statistics) (WATS; 52 edition-2008). Including revenues from cargo aircraft. 14 Revenue Passenger Kilometer - the number of paid pass passengers multiplied by the distance flown. 15 Revenue Ton Kilometer - the weight in tons of passengers and paid cargo multiplied by the distance flown. 16 IATA data, estimates, assessments and projections referring to 2009 are preliminary. Final 2009 data is expected to be published by IATA in June 2010 within the framework of the World Air Traffic Statistics 17 Source: Civil Aviation Administration (including non-paying passengers). In addition to the traffic to BGN, tourists in regular and charter flights arrive in Israel through the Eilat airport in minimal amounts as compared to the traffic at BGN. The term “leg” means a flight section from destination to destination. 18 Data of the Central Bureau of Statistics. 13
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Year
Incoming tourism (Holding Foreign Passports)
Departing Residents
(Thousands of passengers)
Rate of Change
(Thousands of passengers)
Rate of change
2009
2,050
(6.4)%
3,397
(4.4)%
2008
2,190
22.0%
3,552
3.5%
2007
1,790
14.2%
3,433
9.2%
2006
1,568
(5.1)%
3,145
4.4%
2005
1,653
23.5%
3,013
5.0%
According to Company estimates, tourist traffic to Israel is influenced by international passenger traffic trends, the economic situation and mainly by geopolitical processes in Israel or the region, which have affected the security felt by tourists to the region. In this regard note operation "Cast Lead" which began late December 2008 and lasted three weeks (until mid January 2009) as well as the impact of the global financial crisis, which was felt most strongly starting Q4 2008 and during the first six months of 2009. Accordingly, 2009 could be divided into several periods: 2009 began at a low point, reflected in a significant 15% drop in visitor traffic (including day visits – stays of up to 24 hours) entering Israel by air between January and May 2009. During the summer months, June through September 2009, the drop in tourist entrances leveled out (-4%) and in the last quarter of the year a recovery began and a 5% increase was documented in visitor entrances. In total, according to data from the Central Bureau of Statistics, 2 million visitor entrances to Israel by air were documented (including day visits), a 6% drop compared to 2008. Israeli departures abroad may also be characterized by several periods: in JanuaryFebruary 2009, with Cast Lead and the global financial crisis, a sharp decrease (18%) was documented in Israeli departures abroad by air. This decrease leveled out with a 10% decrease documented in March-June 2009, as well as a 1% increase in July-October (the summer months and the Tishrei holidays), while in the last few months of 2009 (November-December), a 4% increase was documented in Israeli departures abroad. In total, according to the General Bureau of Statistics, 3.4 departures were documented of Israelis by air, a 4% decrease compared to 2008. Note also that a significant decrease (-33%) occurred in Israeli traffic to Turkey in 2009 as a result of the continuing tensions between the countries. At the same time, the Turkish market remained the second largest after the U.S. in 2009 and constituted 8.5% of all traffic through BGN. The forecasts and estimates of IATA regarding the volume of passenger traffic to and from Israel as above represent Forward-Looking Information, as defined in the Securities Law. This information is supported, inter alia, by the Company’s assessments in light of the trends of change in tourism during recent years and expected developments, and in view of the economic, security and geopolitical situation in Israel. Accordingly, the actual change in the anticipated volume of incoming tourists to Israel and the outgoing tourism from Israel may be materially different from that forecast as aforementioned, if the Company's assessments are not realized, and because of a large number of factors, including a change in economic, security and geopolitical conditions in Israel.
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7.1.4. Developments in the markets of the field of activity or changes in the characteristics of its customers: In recent years, competition has intensified considerably in the passenger aircraft transport field between dozens of international scheduled and charter airlines. The airlines compete in various areas, principally: fares, frequency and flight times, ontime performance, equipment type, airplane configuration, passenger service. Fare competition is reflected primarily by offering reduced rates to passengers. The competition is present both with relation to direct scheduled flights between various destinations and with charter flights to the same destinations. In addition, in this context, there has been an increase in the activities of the foreign airlines in Israel in the framework of Sixth Freedom. Additionally, during recent years, airlines known as “low cost airlines”19 have entered the aviation world, maintaining low expenses and generally offering very competitive prices. Despite the increase in the number of foreign airlines operating out of BGN, in the number of scheduled flights and in the seat capacity of the foreign airlines, the Group managed to increase its share of passenger traffic through BGN, this alongside the sharp decrease in charter flights and in traffic to Turkey in particular. The Group's market share of all passengers through BGN totaled 37.5% compared to 35.7% in 2008. See Section 7.1.10 below for further details. For details regarding the implementation of the Ministry of Transportation's liberalization policy and the appointment of Israeli airlines as Designated Carriers see Section 7.1.2 above. 7.1.5
Technological changes that could materially affect the field of operations: A number of new products and services have been entered into service in the Company's systems and on its website, which allow the expansion of the "self service" capability of Company customers as well as the improvement of the service provided at the Company's service center to direct customers and travel agents, the development of a new system for online check-in and the development of new means of command and control. As part of the development and establishment of direct Company distribution and marketing channels, growth in the direct online marketing of flight tickets increased in such a manner that the Company's total online sales amounted to $74 million in 2009 (a 28% increase over online sales in 2008). The Company is acting to significantly expand its online trading capabilities, including by translating its website to additional languages, overseas clearing and sales and so on. The Company purchased core software that allows the sale of tourism products and complementary services at all Company sales stations in Israel and around the world. The implementation process at Company systems and at sales stations around the world began over the course of the fourth quarter of 2009. Implementation at sales locations in Israel is expected to occur over the course of the first and second quarters of 2010. In addition, activity has begun in the implementation of an information system for
19
"Low cost" airlines are relatively new airlines with a structure of low expenses deriving mainly from direct marketing through the Internet and not through distribution systems and travel agents. Use of secondary airports, minimal service profile during the flight and operations on short range flights, with no code share agreements with other companies and high utilization of aircraft.
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managing and tracking air pollution (CO2) from Company aircraft with the aim of implementing EU directives on the subject. The system shall collect data from various sources of information (both from the ground and from the Company's aircraft), collect them into a single database, and include a tool for analyzing this data. In April 2008 the Company began using the new Amadeus reservation system, after replacing the previous system (Carmel) and adapting the interfacing system. Over the course of the third quarter of 2008, as part of the implementation of Stage B of the transition to Amadeus, preparation and assimilation of the new DCS model (airport service system) was initiated, to be concluded by March 31 2010. For further details on the Company's agreement with the Amadeus Company regarding the supply of the global reservation system see Section 7.6.2 below. The Company entered into an agreement with IBM in December 2007, for the latter to act as chief integrator for the application of SAP and RAMCO technology (for the field of maintenance and logistics). In light of IBM's failure to uphold its contractual obligations, including IBM's inability to bridge gaps revealed during the characterization stage between existing capabilities of RAMCO products and the Company's requirements (anchored in agreements) – on November 26 2009 the Company informed IBM that it would be canceling its agreement for the implementation of the ERP as a result of the violation of its contractual obligations. In the cancellation announcement the Company demanded the immediate return of all funds paid to date to the amount of $650 thousand U.S. as well as compensation for damages and expenses caused the Company to the amount of $4,500 thousand. On December 31 2009, a reply was received from IBM according to which the Company was requested top pay a total of 4,500 thousand NIS as well as an additional $3 million for additional expenses and the loss of direct profits. After sending the notice of cancellation to IBM, on December 6 2009 the Company informed RAMCO that it would be cancelling its license agreement and demanded the immediate return of funds paid to the amount of $540,000. On December 15 2009, a reply was received according to which the Company was requested to pay RAMCO $315,000 for the balance of payments for the license. The Company is considering its next steps as regards the ERP system purchase, as mentioned above, and alternate solutions for the implementation of the ERP system by the Company are being studied. The information on the implementation and characterization of the above systems, including project completion dates and their impacts constitute Forward-Looking Information, as defined in the Securities Law. The actual implementation of these projects, their dates, their scopes and their impact on the Company's could be materially different from that forecast, due to reasons including technological, commercial and service-related reasons and as a result of the Company's ability to accept the system and the resources allocated for this purpose. In recent years, the aviation market has geared up to deal with terror events by expanding the use of advanced technological and other means, on land and in the air. Within the scope of these preparations, the Company is working in accordance with the instructions of the General Security Service, inter alia, for evaluating and installing protective measures. For further details on security arrangements see Section 9.11.12 below. In 2009 the Company decided to establish a backup site on the Company's grounds to provide a solution in the event of an IT system failure (DRP). For further details see Section 9.18.25 below.
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In May 2010 the Company is expected to begin clearing travel agent charges using the BSP system operated by IATA. This transition to the world's most commonly used clearing system, which constitutes a technological innovation, will allow the Company to conduct efficient financial accounting with its travel agents and more efficient financial management of sales conducted by travel agents. 7.1.6
Critical Success Factors in the Field of Operations and Changes that have Occurred thereof A number of factors can be pointed to in the operations of the passenger and cargo transport area via passenger aircraft, which affect the competitive position in the field: the economic and security situation in Israel, which influences passenger traffic to and from Israel; the branding of the Company in the eyes of the customers, including matters of safety and quality of service; the ability to offer flights to popular destinations at competitive prices and development of a network of routes independently and in cooperation with other airlines; preservation of aviation rights; the ability to offer flights at the frequency and the capacity demanded; a distribution system; risk management by implementing appropriate risk hedging policies.
7.1.7
Changes in the Supplier Network and the Raw Materials for the Field of Operations The primary raw material consumed by airlines is jet fuel and it represents one of the airline's major expense components. See Section 9.5.1 below for details relating to fuel.
7.1.8
Main Entry and Exit Barriers of the Field of operations and Changes Therein One of the most significant entry barriers in the area of the international scheduled flights is obtaining the authorization to carry out scheduled flights from one country to another. In accordance with international agreements, each country is permitted to grant the authorization (appointment as “Designated Carrier”) to carry out flights from that country to other countries to only one company or to a limited number of airlines, as stipulated by agreement. For Government resolutions on Designated Carriers and developments deriving from this decision, see 7.1.2 above. In addition to obtaining authorization from the airline's home country, consent is generally required from the countries to which the airlines wishes to fly with relation to the number of flights and to the capacity of the flight. In addition, each flight is required to have a slot with regard to takeoffs or landings at the airports to or from which it operates. See Section 8.1.8 and Section 9.11.7 below for details. The most important additional entry barrier is the initial relatively large investment that is necessary in order to establish and operate an airline, including acquisition or leasing of aircraft. Under the international aviation agreements, obtaining the appointment as Designated Carrier is conditional upon the substantial ownership and effective control of the air carrier being in the hands of the state or citizens of the country that has specified that it be the Designated Carrier. This requirement represents an entry barrier for obtaining the appointment as Designated Carrier by companies the majority ownership and control of which is held by foreign citizens. However, within the framework of the liberalization of the aviation industry, over the course of the past two years the bilateral agreements between the State of Israel and
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other nations have been updated in such a manner so as to allow the appointment of a Designated Carrier the principle place of business of which is located in the territory of the side appointing the carrier and that the carrier holds an air operator's certificate issued by the appointing side (as in the agreements with the U.K., France and others). Subsequently, as part of the "horizontal" agreement signed between Israel and the EU in December 2008, it was agreed to grant authorizations to European airlines to fly to Israel from any country in the EU, even if it is not the airline's home country, with the only limitation being that the number of the flights from the third country be no greater than the sum of the flights allowed from that country in accordance with the aviation agreement between it and Israel. With this, the ownership and control limitation was in effect removed as a condition for receiving the Designated Carrier status. For details regarding the "open skies" agreement with the EU see Section 7.1.10.b.(3) below. As regards the operation of passenger aircraft in international charter flights, each Israeli carrier must obtain a license to operate charter flights to and from Israel, which is subject to various demands, mainly: economic stability and ownership or leasing of at least two aircraft. Additionally, each Israeli carrier and foreign carrier must obtain authorizations for charter flights from the Civil Aviation Authority. At present, a more liberal policy of granting authorizations in the area of charter flights is in place, both with relation to Israeli charter airlines as well as with relation to foreign charter companies. Therefore, in the Company’s estimation, there are no material entry barriers in the field of charter flights. In addition to the above, various licenses and permits are required to conduct activity. For further details see Section 9.11 above. The limitations applied to the Company by the holder of the Special State Share in the matter of the reduction of the Company's aircraft fleet, constitutes an exit barrier. For details see Section 9.11.9 below. 7.1.9
Substitutes for Services of the Field of Operations and Changes that have Occurred Therein The alternatives for transport in passenger aircraft are transport by other means (maritime and surface vehicles and cargo aircraft for cargo in the holds of passenger aircraft). Note that Israel has no significant alternative to air passenger transport. In addition, the Group has competitors that offer alternative transport in passenger aircraft in scheduled flights, charter flights, low cost flights and Sixth Freedom Flights. There were no substantial changes during 2009 in alternatives to transport by means of passenger aircraft. In the Company's estimation, the major considerations in preferring flight to sea and/or land transport are purpose of travel, traveler's timetable, the distance and the nature of the route.
7.1.10 Structure of Competition in the Field of Operations and Changes that have Occurred Therein A) General There is severe competition in the passenger aircraft transport field between dozens of international scheduled and charter airlines. The airlines compete in various areas, principally: fares, frequency and flight times, on-time performance, equipment type, airplane configuration, passenger service, bonuses to frequent travelers, commissions and special incentives to travel agents and supply of computerized reservation and
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distribution systems to travel agents. Fare competition is reflected mainly in the offering of cheaper fares to passengers or special rates to cargo shippers. The competition is not only with the Designated Carrier of the country that is located on the other end of the route and with charter airlines that operate on the same route, but also with other airlines, including those not operating flights to Israel (offline airlines), this as the result of the travelers' diverse alternatives in arranging their own flight schedule, in which a number of airlines participate, and the strengthening of code sharing agreements between airlines (Star, Sky Team, One World) Additionally, most of the scheduled airlines operating flights to and from Israel also carry passengers on Sixth Freedom Flights (indirect flights with a stopover in their mother country). Because the flight from the home airport (Europe) to the United States is carried out without any connection to the flight from Israel to Europe, the situation sometimes permits the foreign company to lower the total price for the flight from Israel to the United States (through Europe) without reducing the price for which the airline ticket from Europe to the United States is sold. As a matter of fact, sometimes the foreign airlines offer the airline ticket from Israel to the final destination (the United States, for example) at a price lower than the price which they offer for the flight from the stopover destination (Europe, for example) to the final destination. On the other hand, El Al does not presently benefit from similar possibilities to transport passengers between different countries via Israel, primarily because of the current geopolitical situation. A significant portion of the aviation agreements between Israel and other countries state that the offered capacity must be based on the volume of the traffic between Israel and the other country with which the agreement was signed. In recent years the Ministry of Transportation has began implementing a policy of increasing liberalization in the field of aviation, with the goal of encouraging and increasing the volume of tourism to Israel by increasing competition between airlines, which is illustrated in increased capacity and added frequency by foreign airlines operating in Israel. Likewise, over recent years, aviation discussions were held with the civil aviation authorities of several countries and new agreements were signed, in which the liberalization policy in the air transport field was expressed in such a manner that the agreements established multiple Designated Carriers, enabling an increase in the number of airlines that can operate scheduled flights on the routes to and from Israel as well as increasing their frequency (see below for details on the agreements and resulting developments). B) "Open Skies" Policy The Public Commission for Examining the "Open Skies" Issue On April 16, 2007, the report highlights and recommendations of the public commission for evaluating the "Open Skies" issue headed by the Director-General of the Ministry of Transportation were published, which were submitted to the then-Deputy Prime Minister and Minister of Transportation and Road Safety, Lieutenant General (retired) Shaul Mofaz. According to the commission's report, the State of Israel is striving to adopt an aviation policy that will serve as a springboard for economic growth and increasing tourism to and from Israel, based on the importance of a national aviation industry that will take part in equal and fair competition, based on the global environmental conditions and transforming the State of Israel, from an aviation standpoint, to a more attractive destination than its
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competitors, in terms of price and in terms of capacity of the airlines over time. The report further states that the opening of the skies will bring with it the entry of new operators, a decrease in fares and an increase in the State of Israel's exposure as a competitive destination and consequently, an increase in the number of tourists arriving by air. At the same time, the policy will also apply to Israeli passengers who will benefit from prices dropping and a wider range of services and destinations. Implementation of the Open Skies Policy The following is a description of the key changes resulting from the Ministry of Transportation’s "Open Sky" policy in 2009: Switzerland – in June 2009 a new aviation agreement was signed between Israel and Switzerland. According to the agreement each party can appoint two regular airlines to operate regular passenger flights to each of the destinations between Israel and Switzerland. In addition, the new agreement allows each country to operate 24 weekly regular passenger flights, as opposed to 17 in the past. Israir has announced that it will begin operating regular flights to Basel starting late March 2010, as part of the new aviation agreement and in light of the CAA recommendation to appoint it as second Designated Carrier to that country. EasyJet, which operates flights on the Luton-Tel Aviv route, and which is registered and operating in Switzerland, announced that it intends to operate 4 weekly flights on the Geneva-Tel Aviv route, starting August 2010. Brazil – in June 2009 a new aviation agreement was signed between Israel and Brazil. The agreement was effective immediately and established that there would be no restrictions on the amount of Designated Carriers and types of aircrafts from either of country. In addition, 10 weekly frequencies were agreed upon for each side of which 7 weekly frequencies were approved only to the south of the country – Sao Paolo or Rio de Janeiro (the remaining 3 are for northern Brazil). According to the agreement, starting the summer 2012 season, this number will be increased by 7 weekly frequencies. In addition, Fifth Freedom rights and charter flight options were also agreed upon. In this regard note that in May 2009 the Company began operating three weekly flights between Tel Aviv and Sao Paolo. Germany – In January 2009 a new aviation agreement was signed between Israel and Germany. This agreement allows each country to appoint two regular airlines to operate scheduled passenger flights to each of the destinations between Israel and Germany, in total allowing each country to operate up to 30 scheduled flights per week, instead of 18. Note that despite the fact that the quota has been raised to 30 frequencies, the destinations of Frankfurt and Munich have been limited to 21 weekly frequencies for both destinations combined. The agreement also allows Israeli and German carriers to operate flights in a code share with a third country, as well as the operation of scheduled cargo flights. As a result, in March 2009 the Ministry of Transportation appointed Arkia as Designated Carrier to Dusseldorf and Munich, Israir to Berlin and Stuttgart, Sun D'Or as an additional Designated Carrier to Frankfurt and Düsseldorf and CAL (cargo shipping) to Frankfurt and Cologne. In April 2009 Lufthansa began operating 4 weekly flights on the Tel Aviv-Munich route, this in addition to its 14 weekly flights on the Tel Aviv-Frankfurt route, and in spring/summer 2010 it is expected to begin operating an additional weekly flight on the Tel Aviv-Munich
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route. German airline Air Berlin has begun operating two weekly flights on the Tel Aviv-Berlin route starting July 2009 and is expected to operate additional 7 weekly flights from various German destinations. Note that Air Berlin will replace TUI-Fly on its regular flights between Israel and Germany, this after the two airlines signed a strategic cooperation agreement. In July 2009 Israir began operating scheduled flights to Berlin and Stuttgart. Until that date, Israir operated flights to these destinations on a charter format. German airline German Wings, a Lufthansa subsidiary, is expected to operate 2 weekly flights from Cologne starting March 30 2010. UK – following the aviation agreement signed in 2007 between Israel and the UK, the Company was appointed Designated Carrier on the Tel Aviv-Luton route and starting May 2009 the Company has been operating a scheduled daily flight to Luton. In May 2009, British airline Jet2.com began operating direct flights on the Tel AvivManchester route and in November 2009 the low-cost British airline EasyJet began operating 6 weekly flights on the Tel Aviv-Luton route. In November 2009 the British airline British Midlands (BMI) announced that as a result of a recovery plan, which includes the restructuring of the destination map offered to its customers, it would be discontinuing several routes with "particularly difficult market conditions", including Tel Aviv, Kiev, Amsterdam and Brussels. Accordingly, in January 2010 BMI discontinued its activities on Israeli routes. Russia – following the aviation agreement between Israel and Russia signed in November, which allows airlines from either country to operate regular direct flights between Eilat and Moscow, in November 2009 Israir began operating a regular flight on the Moscow-Eilat route. In September 2009 Sun D'Or began operating regular flights on the Moscow-Eilat route. In November 2009 the Ministry of Transportation permitted Arkia to operate direct regular flights on the Eilat-St. Petersburg route, but Arkia has yet to begin operating this route. Two Russian airlines, UT Air and Tatarstan Airlines, began operating regular flights on the Tel Aviv-Samara and Tel Aviv-Kazan routes, respectively, in June 2009. Ukraine – a new aviation agreement was signed between Israel and Ukraine in February 2010. The new arrangement allows the appointment of three Designated Carriers for each side as well as the operation of 21 regular weekly flights on Tel Aviv-Kiev route by each party (instead of the current 14), this in addition to flights to additional destinations in Ukraine as well as a special allocation for religious tourism during the Jewish holiday period. Arkia began operating regular flights on the Tel Aviv-Kiev route starting December 2009. In addition, on February 2010 a new Ukrainian airline, DonbassAero, began operating on routes between Ukraine and Tel Aviv instead of some of Aerosvit's flights, this after purchasing Aerosvit, which until then operated the flights on these routes. US Airways began operating a daily flight on the Tel Aviv-Philadelphia route in July 2009. Norwegian Air Shuttle, a low cost airline, is expected to begin operating a weekly flight on the Stockholm-Tel Aviv route starting March 28 2010. Spanish airlines Spanair and Vueling announced that they intend to operate direct flights on the Tel Aviv-Barcelona route starting May 2010 and Air India announced in the process that it intends to operate direct flights on the Tel Aviv-Mumbai route, starting October 2010.
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A number of airlines operating regular flights to and from Israel recently discontinued their services: Air Europe on the Tel Aviv-Madrid route (February 2009); British airline Thomson Fly on routes to Luton and Manchester (May 2009); French airline Corsair, also a member of the TUI corporation, froze its activity on the Paris-Tel Aviv route for the winter 2009/2010 period (November 2009-March 2010); Russian airline KD AVIA on the Kaliningrad-Russia route (September 2009); British airline BMI on the Tel Aviv-London route. Greek airline Olympic Air, which operated flights between Tel Aviv and Athens, lost its right to operate flights on the Israeli route to its Greek competitor Aegean Airlines due to EU laws, which state that a privatized airline must compete in a new tender for aviation rights on flight routes outside the EU. As a result, Aegean Airlines replaced Olympic Airways starting January 2010. Italian airline Alitalia announced that starting March 2010 it would be cancelling its flights on the Tel Aviv-Milan route, and instead of the flights to Milan, would operate a third daily flight to Rome. Over the past three years new aviation agreements have been signed between Israel and a large number of countries (Spain, Italy, France, Britain, Belgium, Russia, Ukraine, Slovakia, Thailand, South Korea, Switzerland and Turkey). All of these new aviation agreements reflected the liberalization of air transportation, with agreements for multiple Designated Carriers for each side and increased frequencies for regular flights. As a result of these agreements, 19 airlines, which did not operate regular flights to and from Israel until 2007, began operating regular flights to Israel in 2007, 2008 and 2009. 9 of those 19 airlines have discontinued their activities on routes to and from Israel after a certain period of time. In addition, as stated, the Minister of Transportation appointed Israeli airlines as additional Designated Carriers on a series of international routes. The prominent routes in which the appointment to regular flights was exercised by Arkia and Israir are those to Paris, Barcelona and Munich, operated by Arkia, and routes to Tome, Milan and Berlin operated by Israir. Overall, in 2009 the capacity of foreign companies (including regular Arkia, Israir and Sun D'Or flights) increased by 7% and passengers increased by 2% compared to 2008. Airlines increasing their frequency and capacity in 2009 to a significant degree were Lufthansa, Alitalia and BMI. The increase in capacity allowed these companies operating an international hub at their home airports, to increase the number of passengers flown between Israel and a large number of destinations via indirect flights, taking advantage of their route networks (Sixth Freedom traffic) and that of their partners in global aviation alliances and code sharing agreements. The Group increased its seat capacity by 2% but no significant increase occurred in passenger volume compared to 2008. A 5% decrease was registered in passenger volume at BGN in 2009, with a 1% increase occurring in regular passenger travel (including the Company) and a sharp 27% decrease in charter flights compared to last year, deriving mainly from the significant drop in charter traffic to Turkey. Overall, charter traffic (including Sun D'Or flights) through BGN constituted 17% of all traffic, compared to 22% in 2008. As stated, due to the drop in traffic to Turkey and despite the increase competition (due to
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the increase in frequencies and capacities of regular airlines operating out of BGN), the Group succeeded in increasing its share of BGN traffic. Passenger traffic through BGN in 2009 was distributed as follows: the Group: 37.5%; other regular airlines – 49.2%; charter airlines (not including Sun D'Or) – 13.4%. In light of indications to an end in the financial crisis and the gradual recovery in international passenger traffic, both business and tourist, several airlines, including the Company, are preparing to increase their seat capacity in preparation for the springsummer 2010 season by increasing frequency and/or employing larger aircrafts. An escalation in competition levels is expected in 2010 as a result of the entry of additional airlines and as a result of increased capacity and/or frequency and destination expansion by airlines operating regular flights as well as the operation of regular flights to new destinations by other Israeli airlines. The Company's estimates regarding increased competition in 2010 and its possible impact on the Company are Forward-Looking Information as defined in the Securities Law based on the influence of the Open Skies policy, including the increase in the number of foreign airlines operating in BGN, and the increase in the capacity of foreign airlines operating today. The actual level of the increase and its impact on the Company are influenced, inter alia, by economic, security and geopolitical factors and by trends in the airline industry. For further details see 7.1.4 above. For regulatory changes that may alter the structure of competition in the field of activity – see Section 9.11.2 below. The Open Skies Agreement with the European Union In accordance with the aforementioned commission recommendations, talks began in November 2007 between Israel and the European Union, the objective of which is to eliminate the need for separate agreements with each European country, and the execution of one general agreement with the Union's executive, in order to create aviation liberalization that will increase competition and freedom of movement between the airlines. In February 2008, Israel and the European Union Commission signed a preliminary memorandum of understanding, toward the signing of a uniform global aviation agreement between European countries and Israel. In December 2008, a new aviation agreement ("Horizontal Agreement") was signed between Israel and the EU. The Horizontal Agreement updates the sections of the bilateral aviation agreements between Israel and the EU members referring to the ownership and control of Designated Carriers (without changing the aviation rights established in the bilateral agreements) and allows airlines controlled and owned in one of the EU members to operated regular flights from any other country in the EU, subject to the bilateral agreement (for example: Sky Europe Airlines, which is owned by Austrian citizens, may operate regular flights between Slovakia and Israel, subject to the aviation agreement between Israel and Slovakia). For further details see 9.11.7.3 below. The Horizontal Agreement does not influence the aviation rights determined as part of the bilateral agreements. These rights include, inter alia, the right to operate regular flights on agreed-upon routes, the number of companies on each side entitled to operate flights on these routes (Designated Carriers) and the weekly frequency quota granted Designated Carriers. At the same time, the Horizontal Agreement may in the future allow the
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realization of aviation rights not realized to date on the lines between Israel and the EU and pave the way for a global aviation agreement with the EU. In addition, the parties agreed to establish the framework and content of the negotiations for the global aviation agreement and negotiations have begun for a global aviation agreement. The first round of talks between Israel and the EU regarding the global agreement ("the Vertical Agreement"), which is designed to replaces all of Israel's bilateral agreements with EU members and to contain no limitations on the number of carriers, frequencies, capacity and type of aircraft, took place in December 2008. More meetings between the parties took place in 2009 and talks on a global aviation agreement between Israel and the EU continued. The parties are expected to hold additional talks in 2010. C) Charter companies 2009 saw a sharp 27% decrease in charter traffic through BGN. Most of the drop in charter traffic was documented on the routes to Turkey (-43%), this as a result of the continuing tension between Israel and Turkey as a result of Operation Cast Lead. Ignoring traffic to Turkey, charter traffic through BGN dropped 17% from 2008. In total, the share of charter airlines (Israeli and foreign) of total passenger traffic through BGN amounted to 17% in 2009, versus 22% in previous years, as detailed in the following table: Year
Share of Charter Airlines out of Total Passenger Traffic at BGN
2009
17%
2008
22%
2007
22%
2006
21%
2005
22%
D) Low Cost Companies In recent years, airlines known as low cost airlines have penetrated the aviation world. These airlines maintain low costs and generally offer very competitive prices, while providing a low level of service and using alternate, less desirable airports. These airlines have succeeded in growing enormously in the United States, Canada and Europe. This field has also recently started showing gradual signs of growth in Asia. The entry of the low cost airlines into certain markets forces the airlines competing in these markets, which do not have a similar low cost structure, to become more efficient in order to reduce costs. Until now, the low cost airlines have operated on short flights, and have not operated on flights to and from Israel. Starting in 2006, several subsidiaries of the German aviation and tourism giant TUI began operating as Designated Carrier on routes from various European countries to Israel. In 2009 several low cost airlines have began operating in Israel, such as Jet2.com which began operating regular flights on the Manchester-Tel Aviv route and EasyJet, which began operating regular flights on the Luton-Tel Aviv route and which is
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expected to operate regular flights on the Geneva-Tel Aviv route starting August 2010. The following table specifies the market portion of TUI airlines at BGN in 2006, 2007, 2008 and 2009: Passenger Traffic through BGN
Market Share at BGN
2009
2008
2007
2006
2009
2008
2007
2006
156,858
124,724
79,624
63,320
1.4%
1.1%
0.8%
0.7%
Thomson Fly
33,102
108,922
20,128
-
0.3%
1.0%
0.2%
-
Jet Air Fly
27,351
21,018
-
-
0.2%
0.2%
-
-
Corsair
20,406
39,813
1,157
14,307
0.2%
0.4%
0.0%
0.2%
Airline Hapag Fly
The above table indicates that 2009 saw a decrease in the activity of low cost airlines, the aggregate 2009 market share of which amounted to 2.2% of all traffic at BGN, compared to 2.7% in 2008. This decrease is a result of the discontinuation of Thomson Fly activity and the freeze in Corsair flights during the winter months. The activity of Hapag Fly Airlines, which operates flights between Germany and Israel, increased and reached 1.4% of all traffic at BGN in 2009 compared to 1.1% in 2008. For details regarding the activity of Air Berlin which is expected to replace Hapag Air on German routes see 7.1.10.(b) above. The entrance of these and additional companies to the Israeli market may have a negative impact on the Company's operating results as a result of the added capacity offered by these companies at reduced costs. The Company's estimates regarding the entrance of these companies may be different or incorrect an in such a case the scopes of activity of these companies may differ from the Company's estimates. The Company's estimates regarding the scopes of activity of the low cost companies and the future development of this activity in Israel is Forward-Looking Information as defined in the Securities Act. This estimate is based on the fact that this activity involves operating difficulties that might arise such as a shortage in a critical amount of passengers, which this activity requires, difficulty in quick flight turnaround (ground time of no more than an hour) and more. E) Domestic Flights The Company approached the Civil Aviation Administration with a request to be appointed Designated Carrier on the domestic route to Eilat. In August 2009, the Minister of Transportation approved, in principle, the CAA recommendation to allow the Company to operate regular flights between BGN and Eilat, alongside Arkia and Israir. The Minister of Transportation noted that the date on which flights will begin, frequentness and load factors the Group will be able to operate will be determined following thorough staff work carried out by the Civil Aviation Authority. In September 2009 Israir and Arkia petitioned to the High Court of Justice against the Minister of Transportation, the CAA, the Restriction of Trade Commissioner and the Company, for an injunction against the Minister of Transportation's decision allowing the Company to operate scheduled flights from BGN to Eilat. In October 2009 the CAA recommended to the Minister of Transportation that he approve up to 2 daily frequencies on the BGN-Eilat route, this contrary to the Company's request to approve more extensive activity on this route.
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In January 2010 the High Court of Justice rejected the petitions of Arkia and Israir, on the grounds that the petition had been filed at too early a stage. At the same time, the Court permitted the two companies to file a repeat petition after the terms of the route's operation (frequencies and capacity) are determined and within 30 days from the publication of the final decision of the Minister of Transportation and Road Safety and prior to the Company's initiation of activity on the route. On February 4, 2010 the Minister of Transportation accepted the recommendations of the CAA and decided the following: " 1. To allow El Al Airlines to operate the scheduled Ben Gurion Airport-Eilat-Ben Gurion airport route in the following manner: 1.1
El Al shall be required to operate at least one flight per day in each direction, on five out of seven days a week. El Al shall offer at least 100 seats in each direction on each of the frequencies noted in this section.
1.2
El Al shall not be entitled to operate more than three frequencies a day in each direction. In addition, El Al may not offer more than 430 seats a day in each direction. So as to remove all doubt – this restriction applies to seats and not to actual passengers.
2. The frequent flyer programs operated by the Company separate international and domestic services as follows: 2.1
In sales of tickets for the BGN-Eilat-BGN route, El Al shall not be permitted to accept as payment Frequent Flyer points accumulated by its passengers as a result of purchasing flight tickets on international routes operated by the Company. In addition, El Al shall not be entitled to grant frequent flyer points for the purchase of tickets for the BGN-Eilat-BGN route redeemable on international routes operated by the Company.
2.2
El Al may grant frequent flyer points for the purchase of tickets for the BGN-EilatBGN route for use on the BGN-Eilat-BGN route only. El Al may only accept as payment frequent flyer points accumulated by its customers as a result of purchasing tickets for the BGN-Eilat-BGN route only.
3. To carry out the process required by law for the purpose of establishing a uniform maximum price for all airlines operating on the BGN-Eilat-BGN route and the Sdeh Dov-Eilat-Sdeh Dov route, equaling the following sums: ………………………………………. These maximum prices are for one direction only. Maximum prices for the Haifa-EilatHaifa route shall remain unchanged. 4. To free Israir from its obligations towards the flight schedule and seat offerings to which it committed itself in the 1995 Ministry of Transportation tender, and allow it to establish its schedules for the Sdeh-Dov-Eilat-Sdeh –Dov and BGN-Eilat-BGN routes as it sees fit. 5. The terms in this resolution shall remain in effect for a period of six months from the beginning of flights by El Al. Upon the conclusion of the six month period, the impact of El Al's entry into the BGN-Eilat-BGN route shall by studied based on the characteristics of the route at that time, and the amendment or even cancellation of the above conditions shall be considered. This condition shall be written explicitly in the
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terms of the license. 6. This resolution shall not be effective prior to 30 days from today." On March 10, 2010 the Company filed a petition to the High Court of Justice against the decision of the Minister of Transportation on the matter of the license granted the Company to operate the Eilat route ("the Decision"), pursuant to which a temporary order was requested instructing the Minister of Transportation and the Head of the Civil Aviation Authority to explain why the Court should not rule that the restrictions placed on the Company in the Decision as detailed above be cancelled, as well as why the court should not instruct them to clarify why the Company's license needs to be reexamined after a period of six months. Note that on March 8, 2010 Arkia filed a petition before the High Court of Justice against the Minister of Transportation and Road Safety, the Civil Aviation Authority and the Company (hereinafter: "the Respondents") and on March 9, 2010 Israir filed a similar petition before the court. In these petitions the court was asked to issue a temporary order instructing the Respondents to explain why the Minister of Transportation's February 4 2010 decision to allow the Company to operate direct flights between Ben Gurion Airport and Eilat should not be revoked. In addition, the court was asked to issue an interim order (or alternately an injunction until a hearing is held on the petition) instructing the Respondents to avoid effecting the decision until the petition is resolved. The Supreme Court decided not to issue interim orders on the petitions filed by Arkia and Israir and the court consolidated the discussion on the petitions and ruled that the petitions shall be brought before the court before the end of April 2010.
7.2 Services in the Field of Operations A. General The main services provided by the Company in this field of operations are air transport of passengers and cargo to various destinations by using passenger aircraft. As of the date close to the approval of the report, the Group operates flights in passenger aircraft to 36 destinations in 26 countries in Europe, North America, East and Central Asia and other destinations. Additionally, the Group operates flights from a number of locations in Europe to Eilat. In 2009, the Company operated an average of 218 weekly flights on in each direction. In addition to the flights it operates, the Company markets flights in the framework of interline agreements with other airlines, which make it possible for passengers on scheduled flights, subject to certain restrictions, to use airline tickets issued by another airline, for flights of the other airlines. The company whose flights are used by the passenger submits the bill for payment to the company that issued the flight ticket. The accounting between the airlines is done on a monthly basis, generally through IATA's clearinghouse. The scheduled airlines also operate flights in the context of “code share”. The use of the code share permits the air carrier to market flights operated by another air carrier as if they were its own flights, so that the passenger orders the flight through one carrier, despite the fact that, in practice, his flight is with another carrier. The code share provides the participating carriers with the possibility of increasing the frequency of the flights offered to its customers, accessibility to additional destinations and also marketing advantages, including amplifying the attractiveness of joining the Group’s frequent flyer club. The
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Company has also operated in this area in recent years. For further details regarding legislative changes in the antitrust field and a list of the Company's code sharing agreements, see Section 9.11.2(i) below. In its scheduled flights, the Group operates four service sections that are distinct one from the other in the type of seat, the space between the seats, the food and beverage menu, the manner of serving, the assortment of convenience and leisure products and the number of flight attendants in relation to the number of passengers. The sections are first class, improved business class - platinum, business class and economy class. The charter flights operate a service profile suitable for charter operations. Not all classes operate in all flights. All scheduled flights contain a system of programs of audio, films, screened magazine and printed magazine and services are provided for the sale of duty free products. In March 2008, the Company entered into a collaboration agreement with Keshet Broadcasting Company Ltd. and Channel 2 News Company to show Keshet entertainment programming and its daily news edition on flights. In addition to regular flights, the Company is engaged through Sun D’Or, in carrying out charter flights by leasing capacity in aircraft to organizers of charter flights at prices agreed upon in advance, and the sale of blocks of seats to agents. The Group’s flights are supported by a system of ground services that administers the processes of boarding passengers and their baggage, their alighting at destination airport and unloading their baggage, and cargo handling. The ground services exist at BGN and at each of the destinations at which the Group’s aircraft land. At the same time, the Company operates a ground security array in each of the overseas airports at which Israeli airlines land and a system of air security, which operates during the flights of passengers of Israeli airlines. (The ground security system at BGN is operated by the Airports Authority). B. Data Regarding the Destination Groups of the Group The following are data regarding the Group's market share separated into groups of key destinations, relative to all passenger traffic to or from BGN, broken down into these destination groups:
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Number of passengers broken down to destinations of direct flights21 (in thousands of legs)
To/from BGN
Change
Company estimates of market Company share (in %) 20
2009
2008
2007
2009
2008
2007
(in %) in 2008 North America
(2.7)
1,525
1,568
1,555
40.0
42.0
46.0
Europe
(2.7)
6,886
7,078
6,369
41.0
40.3
42.6
6.8
393
368
396
59.0
60.2
62.2
Other23
(17.6)
1,656
2,012
1,749
15.2
9.8
10.4
Total
(5.1)
10,460
11,026
10,069
37.5
35.7
38.3
East
and 22
Central Asia
C. Routes to North America (to the United States and Canada) During the height of the 2009 summer season, the Company operated 29 weekly flights to North America and during the winter season, it operated some 22 weekly flights (mostly to New York). There is severe competition between the airlines that operate on the route between Israel and North America (Continental, Delta and Air Canada), which intensified upon the entry of US Airways on the Tel Aviv-Philadelphia route in July 2009. In addition, intensive activity by European airlines taking traffic to the United States and Canada via their home airport (Sixth Freedom) continues. Overall, in 2009 there was a 3% decrease in transatlantic passenger traffic compared to 2008. The Company decreased its capacity on these routes by 6%, and the Company's 20
21
22
23
Data of the Civil Aviation Authority relate to the airlines that carry out the flights and not to the destinations of the flights. Therefore, this data represents a Group estimate based on analysis of the Civil Aviation Authority data, after deducting non-paying passengers. This data has been broken down by the direct flight destination and does not make a distinction as to the true destination of the passenger when the subject is Sixth Freedom flights of foreign companies. This data has been broken down by the passenger’s final flight destination (including the final destination in Sixth Freedom flights). The Company’s estimate concerning the passenger’s final destination is based upon data from global distribution systems. The Company is unable to assess the level of precision of the data obtained from the distribution systems, which includes paying passengers only. It should be noted that the Civil Aviation Authority publishes data which includes non paying passengers and is broken down by the airline companies which carried out the flights (and not by the destinations), so that in cases of a flight of Sixth Freedom of a European company between Israel and the United States via an airport in Europe - the flight will be attributed to the home country of the European airline. According to the Company's processing of the Civil Aviation Authority data (deduction of non paying passengers according to the Company’s estimate and a breakdown of the flights to the mother countries of the airlines, while ignoring Sixth Freedom flights), the market shares of the Company were: in the North America route: 48.5% in 2009 vs. 50.3% in 2008; in the European routes: 37.6% in 2009 vs. 36.3% in 2008; in the East and Central Asia routes 88.7% in 2009 vs. 97% in 2008; in other destinations: 14.6% in 2009 vs. 10.8% in 2008. The Group is unable to assess the level of precision of its estimate of the market share which includes Sixth Freedom flights in the East and Central Asia market, Africa and regional destinations (such as Turkey, Greece and Cyprus), this in view of the lack of precision of the information in the Company’s possession regarding the number of passengers of other airlines in these markets. Others: passengers to regional destinations (Cyprus, Egypt, Greece, Jordan, Malta and Turkey) and Africa. Starting May 2009 the Company has operated direct flights to Brazil. Therefore, in 2009, passengers on these flights have been included as "Other" (regional destinations, Africa and Brazil).
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passenger traffic decreased at a similar rate. On the route in question all of the airlines (Israeli and American) had full freedom of action in the matter of rates, frequencies, types of aircraft, aircraft configuration and so on. The Company, as a Designated Carrier to the U.S., has the right to carry passengers, cargo and mail to/from New York and other points in the U.S., some as part of a code sharing agreement with American Airlines. This agreement allows the Company to offer its passengers dozens of central destinations in North America, relying on the Company's network of direct routes. However, at the moment, and in light of the lowering of Israel's flight safety rating to Category 2 by the FAA in December 2008, American Airlines has dropped its code from Company flights and at this stage the agreement is implemented unilaterally, with the Company permitted to sell tickets with the Company's code for American Airlines flights, but American Airlines not selling tickets with the American Airlines code in Company flights. The Company's estimates regarding the changes in capacity and frequency of other airlines and the intensifying of competition is Forward-Looking Information as defined in the Securities Act. This information is based, inter alia, on the Company's estimates in light of the Group's current scopes of activity and the level of market competition that may not be realized in whole or in part, or which may be realized in a significantly different manner. The actual situation may differ from projections among other reasons due to the opening of the market to additional competition, regulatory changes, the manner in which the Company deals with competition and the risk factors listed in Section 9.18 below as well as economic, security and geopolitical changes. D. Routes to Europe The Company has scheduled flights to 25 destinations in Europe, with the key destinations being London, Paris, Frankfurt, Rome, Milan, Madrid and Zurich. In general, the Company competes on the routes between Israel and Europe with the national Designated Carriers of the destination country, as well as with other scheduled airlines that take Sixth Freedom traffic to other countries via their home airport, and with foreign and Israeli charter airlines that operate charter flights to various destinations in Europe. In this regard, it should be pointed out that European scheduled airlines flying to Israel have an advantage over the Company, since they have the ability to offer continuing flights to destinations to which the Company does not fly. The Group, as Designated Carrier, has the rights to transport passengers, cargo and mail to/from various destinations in Europe, in part, solely in the context of “code share”. In 2009, the liberalization of the Israeli aviation industry continued, with the signing of new aviation agreements with several European countries, the appointment of additional Designated Carriers on these routes and approvals granted by Israeli authorities to increase capacity for foreign airlines (See Sections 7.1.1, 7.1.4, 7.1.8 and 7.1.10 for details). In addition as detailed above, in light of the Government resolution from January 2008, in 2009 Israir, Arkia and Sun D'Or were appointed as Designated Carriers to additional destinations. For details regarding the appointments as Designated Carriers to other airlines see 7.1.2.(d) above. Note that in spite of the above, Arkia, Israir and Sun D'Or still operate charter flights on some of the aforementioned routes. The Company estimates that Arkia, Israir and Sun D'Or will be appointed Designated Carriers to additional destinations in 2010, in accordance with new aviation agreements signed and to be signed in 2010.
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Note that 2009, which was influenced by the economic crisis and by Cast Lead, saw a drop in passenger traffic on European routes and many airlines operating on these routes registered decreased traffic, despite the fact that many increased their capacity relative to 2008. In addition, in 2009 many airlines operating scheduled flights discontinued their activity on these routes. See 7.1.10 above for details. In all, a 12% increase occurred in the capacity of other regular airlines (including scheduled Arkia and Israir flights) on Western Europe routes, while foreign charter flights reduced their seat capacity by 26% and their passenger numbers dropped accordingly. In total, a 2% drop was registered in passenger traffic on routes to and from Europe. The Group increased its seat capacity on these routes by $%, but no change occurred in passenger traffic on these routes. Note also that Sun D'Or registered a significant increase in its activity in Eastern and Central European routes, particularly on its routes to Zagreb and Bratislava, to which it began operating regular flights starting April 2009 as well as routes to Bulgaria (Burgas) and Poland (Warsaw, Katowice and Krakow), in all increasing its activity on these routes by 78%. As a result, the Group registered a 10% increase in passenger traffic on Central and Eastern European routes, while traffic on these routes dropped 4% as a whole. In all, passenger traffic to Europe (East, Center and West) dropped 3%, with no material change occurring to the Group's passenger traffic (+1%) on these routes. Aviation agreements signed over the past three years and those expected to be signed in the near future and the Government's decision regarding a change in the Open Skies policy will lead to the operation of scheduled flights to and from Israel by other airlines, and to increase in the capacity and frequency and/or an expansion in destinations among the existing airlines. For instance, Easy Jet has announced its intentions to renew flights on the Geneva-Tel Aviv route in addition to flights it operates from Luton (West London) starting August 2010, and Israir announced that it intends to start operating regular flights to Basel starting Spring/Summer 2010. Therefore, in 2010, a further increase is expected in the competition for traffic on these routes. The Company's estimation regarding the increased capacity and frequency among the other airlines and the intensifying competition are Forward-Looking Information as defined in the Securities Law. This information relies, inter alia, on the Company's estimates in view of the volume of the Group's current activity and the degree of competition in the markets may not be realized – in full or part – or be realized in a significantly different manner. The actual situation could be different than forecast, for reasons including the degree to which the market is opened to additional competition, regulatory changes, how the Company deals with competition and risk factors described in Section 9.18, as well as economic, security and geopolitical changes. E. The Routes to East and Central Asia In September 2008 Korean Air began operating three regular passenger flights per week on the Tel Aviv-Seoul route. Other than the Company, which operates on routes to India (Mumbai), Thailand (Bangkok), China (Beijing) and Hong Kong, scheduled airlines that operate in Israel operate flights to these destinations in the context of Sixth Freedom traffic. In total, in 2009 the supply of seats in these routes increased by 9% compared to 2009 and
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the number of passengers on these routes increased by 7%, mainly as a result of operation of Korean Air on the route to Seoul. F. Other routes The other routes that the Company operated during 2009 were Greece, South Africa, Egypt and Brazil. As mentioned, due to a lack of economic feasibility, Israeli airlines, including the Group, discontinued their flights to Turkey starting March 2007. The Group renewed its activity on the Turkish routes in July 2008 via Sun D'Or flights, currently operating as charter flights. Arkia and Israir as well have begun operating flights to Turkey, albeit at insignificant levels. However, due to the continuing tension between Israel and Turkey following Operation Cast Lead and the sharp (33%) drop in passenger traffic to Turkey, Israeli airlines avoided operating flights on routes to Turkey. Foreign charter flights decreased their seat capacity by 40% and registered a similar drop in passenger traffic on Turkish routes. See 7.4 below for details regarding the code sharing agreement with Atlas Jet. In all, passenger traffic on regional routes and on African routes decreased by some 20% and the number of Group passengers decreased 10%. As stated above, the Company began operating regular direct flights between Tel Aviv and Sao Paolo, Brazil starting May 2009. The Group's market share of these destinations was 15% in 2009. In addition, from time to time the Group operates unique charter flights or short series of charter flights to various destinations.
7.3 Analysis of Revenues and Profitability from Services In 2009 the Group's revenues from this area of activity decreased 18.7% compared to 2008, with the rate of decrease in passenger traffic through BGN in 2009 being 5% versus 2008. For details regarding the breakdown of the Company’s revenues and profitability (consolidated) by reported operating segments in the area of passenger aircraft see Section a.5 of the Board of Directors Report.
7.4 New Services •
In May 2009 the Company began operating three regular weekly flights to Sao Paolo (Brazil), and thus for the first time the Company is operating direct flights to South America.
•
In May 2009 the Company began operating regular flights on the Tel Aviv-Luton route.
•
Following the Company's reports, the upgrade to the luxury classes of the entire longrange fleet was completed. The installation of laptop sockets in the economy classes of Boeing 747-400 aircraft is expected to be completed within a number of months.
•
As part of its strategy of developing and establishing direct distribution and marketing channels, a system was developed for the online sale of duty free products, which allows, among other things, sales using frequent flyer points. The service was designed to assist passengers and provide a response to customers seeking to ensure the
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availability of duty-free products on their flights, with payment occurring upon receipt on the flight. •
In October 2009 the Company began collaboration with Sakal Duty Free, in which the Company offers its passengers the option of purchasing a variety of electronics, fashion and toy products. Ordering may take place on flights only and shipping is at no extra cost to the customer's home. The products are not tax-free.
•
Following the Company's reports on the pilot program testing the operation of the Economy Basic Class in which tickets were sold on certain flights at lower prices than in other classes, with passengers asked to pay extra for services provided, including food and drinks, entertainment, luggage, arranged seating and so on. The Company has decided to discontinue the program starting April 2010.
•
The Company has begun taking actions to meet PCI credit clearing standards, by making requisite infrastructure changes and adjustments, among other steps.
•
From time to time, the Group assesses the possibility of increasing the frequency to existing destinations and the possibility of operating flights to new destinations, meeting market demand, inter alia, through other code sharing agreements with other airlines. For details regarding regulatory approvals necessary for such agreements see 9.11.2.i below. In 2009 the Company entered into the following code sharing agreements: o
In December 2009 the Company signed a code sharing agreement with Turkish airline Atlas Jet. The agreement was a hard block agreement combined with a soft block agreement, so that the Company's is obligated to purchase a fixed number of seats from the Turkish airline on its flights, part of which it will be able to return. The agreement will allow the Company to market seats on Atlas Jet flights between Tel Aviv and Istanbul. In this regard, note that the Company stopped operating flights on this route in March 2007. The agreement was ratified by the Minister of Transportation and Road Safety and the Restraint of Trade Commissioner. The flights shall be operated in such a manner that the Company shall place its code on Atlas Jet flights on the Tel Aviv-Istanbul route. This agreement is expected to be implemented in April 2010.
o
In June 2009 the Company signed a code sharing agreement with Air China. This is a free sale agreement (free purchase of seats by one airline from another, without a fixed quota). In December 2009 the Restraint of Trade Authority approved the agreement after studying its implications on competition on the route to China. The Restraint of Trade Controller noted in her decision that beyond the fact that the arrangement does not raise any fears of any real damage to competition, it allows an additional marketing channel for El Al flights to Beijing and helps the Chinese airline offer combined flights from Tel Aviv to other destinations in and out of China. As stated, the agreement was ratified by Israeli authorities while the Chinese aviation authorities approved the first step, according to which Air China will place its code on the Company's flights on the Tel Aviv-Beijing route. The code sharing agreement came into effect March 2010. In Stage B (which is expected to occur next year), the Company shall add its code to internal Air China flights to and from Beijing and possibly on international Air China flights (subject to regulatory approval from third nations).
o
In April 2009 the Company signed a code sharing agreement with Czech Airlines. This was a mutual seat swap type agreement. In September 2009 the Restraint of Trade Commissioner approved the agreement. As a result, the agreement came
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into effect as regards flights on the Tel Aviv-Prague route starting October 25 2009.
7.5 Customers The Group renders its services to passengers who are both members of households and of the business sector. The majority of the airline tickets of the Group are sold by means of travel agents and marketers of tourism packages, and directly by the Company to institutions and individuals. See Section 7.6 for additional details. For information on the frequent flyer program see Section 7.6.4 below. The Group does not have a customer in the passenger aircraft field whose revenues account for 10% or more of total Group revenues. The Group estimates that it is not dependent on any single agent in the area of cargo shipping in passenger aircraft. See Section 8.5 below for details relating to customers of cargo transport services.
7.6 Marketing and Distribution 7.6.1
Travel agents and marketers of tourism packages Most travel agents are IATA members and sell flight tickets for a number of airlines. Upon making their sale, the agents are entitled to commissions from the airlines at rates determined by them an in accordance with IATA directives24. Agents may occasionally be entitled to additional commissions, including sales incentives, as decided by the airlines. The vast majority of the marketing of airline tickets to passengers is carried out by means of travel agents and marketers of tourism packages. In addition, airline tickets are sold by the sales offices of the Group and by direct sale over the telephone and the Internet. The Group has 5 sales offices in Israel and 28 sales offices in 22 branches outside the country. In addition, the Group sells airline tickets by means of approximately 30 general sales agents (GSA) abroad. Airtour Israel Ltd. (hereinafter- “Airtour”), which is a company jointly-owned by the Group and by travel agents, is an important marketing channel for the Group in the Israeli market, as a distribution arm to all agents in Israel with respect to sales campaigns, packages and special fares to all agents in Israel. During 2009 Airtour focused on marketing packages and began expanding to the area of business customers. In the passenger aircraft transport field, the Group does not have an agent through which sales volume amounts to 10% or more of total Group revenues. The Group estimates that it is not dependent on any single agent in the passenger aircraft transport field. The Group provides support to travel agents and package marketers, inter alia, through the Group’s sales offices. The Company grants commissions and special incentives to travel agents, primarily based on the sales volume of airline tickets. In principle, the consideration to Israeli agents is divided in two: a fixed component (a basic 7% IATA commission) and a variable commission component, as an incentive. There are various methods in use globally regarding this matter, conforming to market needs. In recent years, a trend has developed in the aviation world of transition to a reduced commission system, reaching a “net fare” system (fares without commissions) in such a manner that the agents' base commissions are cancelled and service fees collected by the agents are added. The foreign scheduled airlines operating in Israel have instituted a similar policy to that of the Company, although
24
For details regarding IATA directives see www.iata.org.
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starting January 2009 the following airlines cancelled the base commission in Israel according to accepted practice in other markets around the world: Lufthansa, Swissair, British Airways, Air France, KLM and Alitalia. In March 2010 Air Canada reduced its base commission paid agents from 7% to 1%, and Austrian Airlines announced that it would be cancelling its base commission for agents in Israel starting October 1 2010. Commissions to agents abroad vary from country to country, according to market conditions. See Section 7.1.5 regarding the transition to the BSP clearing system. See Section 8.5 below for details with respect to commissions in the area of cargo transport. 7.6.2
Computerized Reservations System Until 2008, reservations for flights were made by means of the Carmel computerized booking system that also served both as a pricing and as a ticketing system, to which all of the Company's sales offices in Israel and abroad, most travel agents in Israel, general agents of the Company and a number of large agents abroad were linked. A computerized reservation system displays the up-to-date flight schedule of the Company and of foreign airlines, and enables the users to book reservations and ticket on those companies’ flights. The Group also has agreements with certain international distribution systems that allow sale and direct access to the Carmel system by the users of such systems in order to book reservations for Company flights. The Carmel system was distributed to travel agents in Israel by Sabre Israel Travel Technologies Ltd., which until October 1 2009 was jointly owned by the worldwide Sabre (51%) and the Group (49%). Pursuant to the suit filed against the Company by Sabre International and the settlement reached by the parties, the commercial agreement at the basis of Sabre Israel Travel Technologies Ltd. Came to a conclusion and on the date of the settlement, October 1 2009, the Company sold its entire stake in the joint company (49%) to Sabre International. For further information regarding Sabre see 9.7.2 below. For further details regarding the legal proceedings against the Company see 9.14.12 below. Following the transition to the new Amadeus system in 2008, in 2009 the Company continued its preparations for a second transition of DCS (Departure Control System) activity. These technological changes included, among other things, adjustments and development of applications and interfaces for Company systems, creation of communication for active airports in which the Company operates "online", installation of applications at all stations, including the ACM (Amadeus Customer Management) system and the AFM (Amadeus Flight Management) system, establishing procedures and entering rules into the system, testing applications and preparing instruction systems. In addition, as part of the adaptation of activity to the new system, more efficient use was made of loading capabilities by calculating weight and balance using concentrated calculated data as well as more efficient supervision of customer treatment procedure. The Company's estimation regarding the transition to the Amadeus system is Forward-Looking Information as defined in the Securities Law, based on the Company's assessments and forecasts as of the date of this report regarding the success of the transition to Amadeus. These assessments may not be realized, in full or in part, or may be realized in a materially different manner, with the main influencing factors being technological factors, the Company's ability to complete integration of the new system and its actual implementation, and changes in the
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volume of the Company's activity, deriving, inter alia, from the competition and changes in the economic, security and geopolitical situation. 7.6.3
Marketing and Sales to Passengers The Group takes action in order to advertise its services to passengers in the Israeli market and in other large markets. The Group also initiates marketing events, sponsorships and joint efforts. 2009 saw a continuation of the trend of global growth in e-ticketing, meaning the direct marketing of flight tickets over the Internet. These trends are intended to reduce airlines' marketing and distribution costs. The Company continues to conform its operations to these trends, by developing means that enable self-service for customers, such as online ticket purchasing, check-in and seat selection, check-in and seat selection at counters in the terminal, etc. The Group sells directly to passengers through the Group's reservations department and website. The Group also operates a business desk to promote sales to business entities, mainly in Israel. In order to increase the attractiveness of the Group's flights for passengers interested not only in transport services to and from Israel, but also in tourism services, the Group markets a variety of ground services for tourists (hotels, tours, car rental) to individual passengers, directly and through agents. For this purpose, the Group markets packages through Airtour. See Section 9.7.2 (g) below for details. This activity is marketed abroad through Superstar Holdings (England) at the Company’s branches abroad by independent direct marketing or through travel agents. See Section 9.7.1(d) for details. The Group also holds shares in the marketers of packages operating in Israel: Kavei Chufsha Ltd. (See Section 9.7.2(g) below for details). See Section 8.5 below for details on marketing and distribution of freight transport in the bellies of passenger aircraft.
7.6.4
Frequent Flyer Program As part of its marketing efforts, and in order to fortify the loyalty of Group passengers, the Group offers special benefits to passengers belonging to its “frequent flyer” club, which is based upon a recorded database. The passengers receive points for their flights on all of the Group’s routes. These points award passengers with various benefits, including airline tickets at a discount or for free (with the exception of a cash surcharge for port taxes and various extra charges, including a fuel surcharge), upgrades to better classes and access to the Company’s lounges throughout the world. Staring January 1 2009 the Company issues reports regarding program liabilities in its Financial Statements according to the IFRIC-13 international accounting regulations. This clarification states that flight ticket sales agreements in which the Company grants its customers frequent flyer points exercisable in the future as flight tickets will be treated as multi-component transactions, and the payment received from the customers will be allocated between its various components based on the fair value of the bonus credits. The proceeds attributed to the bonus will be recognized as income when the bonus credits are repaid and the Company's obligation to provide the bonuses is upheld (see Note 2.q.(1) to the Financial Statements)
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In recent years, the Group has entered into agreements that allow the accrual and redemption of points in other airlines and/or conversion of points/stars from credit cards and other businesses to the frequent flyers club as collaborative agreements allowing the accrual of points and/or other benefits as a result of purchases made from various businesses and agreements for the use of points at various businesses. In addition, agreements have been made with various non-profit organizations working for social, ethical and humanitarian causes, for the contribution of points to said organizations by club members. The frequent flyers club has hundreds of thousands of members and is composed of a number of ranks according to the activity level of their members: “Regular Frequent Flyer", “Silver”, “Gold”, “Platinum” and "Top-Platinum". Concurrent with commercial changes made in recent years in the club's terms, various technological improvements were also made, including upgrading the information system by allowing club members to execute transactions in their accounts through the website, improving the system for routing calls at the service center, improving the format of the customer account statement, and more. Traffic of frequent flyer club members during 2009 accounted for 31.8% of the Company's total passenger traffic compared to 30.4% in 2008. The Company's program for cultivating and retaining prestigious customers continued in 2009.
7.7 Reservations Backlog The Company has no financial data as to the volume of forecasted revenues from noncancelable tickets. Furthermore, a portion of these tickets may also be redeemed by the customer over an extended period that does not exceed two years (“open ticket”). The Company has “prepaid income” derived from advance payments received for flights that have not yet flown as well as from points accrued by frequent flyer club members as noted above.
7.8 Competition 7.8.1
General A. The passenger aircraft transport field is characterized by strong competition between the airlines providing transport services between the same or alternative destinations. B. The Company is the Designated Carrier of the State of Israel to most of the destinations from which regular flights are operated to Ben Gurion airport (BGN). For further details regarding government resolutions pertaining to aviation policy see Section 7.1.2 above. C. The Group estimates that, over the course of 2009, competition on flights to and from Israel was with approximately 100 airlines, including Israeli airlines Arkia and Israir (operating both charter flights and regular flights to certain destinations), 53 foreign airlines operating scheduled flights to 55 destinations in 30 countries and 50 airlines operate charter flights (of which 30 operated throughout the year and the rest operated individual flights). The competition for cargo transport in the holds of passenger aircraft, which is included in this field, is against airlines that transport
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cargo in cargo aircraft and in the holds of passenger aircraft. See Section 8.7.1 for additional details. See Section 7.1.10 above for details on the competitive structure of this field of operations. 7.8.2 The Group’s Market Share in the Service Categories According to the Company's estimates, in 2009 the Group's portion of all traffic to and from BGN amounted to 37.5%, compared to 35.7% in 2009. For the Company's market share of service groups see Section 7.2.(b) above. 7.8.3
Significant Competitors in the Field of Passenger Aircraft Transport To the best of the Group's knowledge, the Group's major competitors in the passenger aircraft transport field, in terms of market share, are Continental (U.S.), Delta (U.S.), Lufthansa (Germany), British Airways (UK), British Midlands BMI (UK; until January 2010) Alitalia (Italy), Air France – KLM (France and the Netherlands), Swissair (Switzerland), Trans Euro (Russia), and Aerosvit (Ukraine), which was replaced by Donbassaero in April 2010. See Section 7.1.10 above for details on the significant intensification of competition that occurred in the field in 2009.
7.8.4
Major Methods for Coping with Competition The Group acts in a number of venues in order to raise profitability, while preserving and increasing its market share and increasing its load factor: A. Conforming the schedule, as much as possible, to the seasonality of traffic and to international events. B. Increasing the frequency of flights to popular destinations and increasing the number of flight destinations, including by cooperating with other airlines. C. Striving to constantly improve the service to passengers, including improving seat comfort, food quality and variety, and flight entertainment, etc. focusing on business class. D. Providing benefits to frequent flyers club members and to businesses belonging to of the Group’s business desk. E. Operating through all relevant marketing channels. F.
Approaching the traveling public by means of advertising campaigns in Israel and abroad.
The positive factors that affect, or are likely to affect the Group’s competitive position include the following: a broad and varied flight structure; a distribution system dispersed widely throughout Israel; the existence of an attractive frequent flyers club; a formidable brand in the local market; high level of safety and security; schedule stability and on-time performance; conforming services to market needs and code sharing agreements with other airlines. The negative factors that affect, or are likely to affect, the Group's competitive position
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include the following: a geopolitical situation that significantly reduces the Group's opportunities to carry out Sixth Freedom Flights (indirect flights via BGN) as opposed to the expansion of Sixth Freedom Flights by foreign airlines; the possibility of appointing additional competitors as Designated Carriers in Israel to destinations to which the Group flies or to nearby destinations, especially in view of the Government's aforementioned 2008 decision; the declaration made by the U.S. FAA to lower the State of Israel's flight safety rating to Category 2 and the fear of limitations placed by European aviation authorities (for further details see Section 9.11.2(h) below); the entry of low cost companies; regulatory changes and legislative restrictions applicable to the area of activity (for details see 9.11.2.(i)); excess capacity of competitors; the Group's reliance on distribution by means of agents as opposed to the growing trend of direct marketing via the Internet; the Company's not flying on the Sabbath or Jewish holidays and possible worsening of the economic, security and political situation in Israel.
7.9 Seasonality The Group's operations are seasonal and are concentrated in peak periods. High traffic of Israeli residents abroad occurs principally in the summer seasons and at holiday times, and the greatest traffic of tourists to Israel is principally in the summer season or approaching the Jewish or Christian holidays or vacation time in their countries of origin. The Group's peak operations are in the third quarter, when passenger volume in 2009 and 2008 was approximately 32%, and 30%, respectively, of total annual passenger traffic. The following are data on the breakdown of the Group’s quarterly revenues from passenger aircraft25:
Quarter (in Millions of Dollars) Year 2009 % of operating
Total
January-
April-
July-
October-
January-
March
June
September
December
December
305.4
363.7
443.2
377.2
1,489.5
20.5%
24.4%
29.8%
25.3%
100%
399.4
492.5
534.0
406.1
1,832.0
21.8%
26.9%
29.1%
22.2%
100%
sector 2008 % of operating sector
7.10 Productive Capacity The accepted indices of output in the world of aviation as regards passenger aircraft are load factor26 and ASK27. At peak demand (August), the productive capacity of the Group 25 26 27
The period of the Jewish holidays, according to the Gregorian calendar, varies from year to year; this may have an effect on comparing quarterly operations between one year and another. Passenger Load Factor-computed as RPK (number of paying passengers multiplied by distance flown) as a percentage of ASK (number of seats offered for sale multiplied by distance flown). Available Seat Kilometer - number of seats offered for sale multiplied by distance.
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approximates full potential output. In August 2009 the ASK was approximately 2,096 million RPK and the load factor for August 2009 was 89.7%. Note that the yearly load factor considered most efficient by leading regular international airlines is generally no greater than 80%. The following graph describes the monthly ASK average and the Company's average load factor over the past five years:
In accordance with the 1982 government resolution, the Company ceased operating scheduled flights on the Sabbath and Jewish holidays, and, accordingly, does not fully utilize its productive capacity. With the conversion of the Company to a “Mixed Company” on June 6, 2004, this prohibition was removed. Pursuant to an agreement reached in January 2007 between representatives of the Rabbinic Committee for Sabbath Observance and Company representatives, the parties agreed that the Company would continue to maintain the status quo which had existed up to then, according to which the Company does not carry out passenger flights of EL Al on the Sabbath and on Jewish holidays, pursuant to the 1982 government resolution. In light of the need that arises from time to time for flights to be carried out on the Sabbath, it was agreed that, prior to such flights, the Company would communicate with the Chief Rabbi, Shlomo Amar, to clarify the position of Jewish doctrine. Additionally, the parties formulated understandings concerning the refund of cancellation fees for portions of kosher meals, in the event that, as the result of the breach of this understanding, ultra-orthodox customers would be forced to cancel their flights. See Section 9.18.24 below for further details.
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7.11 Aircraft Fleet As of a date near the approval of the report, the Company makes use of 36 passenger aircraft (of which 26 are owned by the Group and 10 are leased by the Group). The Group's fleet of passenger aircraft was manufactured entirely by Boeing. As a result, El Al is dependent upon the aircraft manufacturer Boeing for all matters related to the supply of aircraft parts, in the event of failures and findings occurring during regular maintenance (as a result of it being the aircraft's manufacturer) and engineering consulting. A.
The following table itemizes the fleet of passenger aircraft owned by the Group, as of December 31, 2009:
Type of Aircraft
Total
Average Age (in Years)
Average No. of Seats
Maximum Flight Range (Nautical Miles)29
Cargo Capacity28
747-400
5
14.4
404
6,400
18.7
757-200
3
17.5
190
3,000
3
737-700
2
10.3
100
2,000
1.5
737-80030
6
5.7
142
2,400
1.5
767-200ER(CD)
2
25.9
192
4,800
10.6
ER(EF)767-200
2
19.5
191
6,200
12.1
777-200
6 31
6.6
279
7,300
22.4
Total
26
11.9
233
The following table itemizes the transactions pertaining to the Company's equipping (purchasing) of passenger aircraft during the reported year:
Type of Aircraft
Price of Transaction (in Millions of Dollars)
Amount of Aircraft in the Transaction
Self Financing %
Loans/ Credit (in Millions of Dollars)
Fleet Joining Date
Further Details
737-800
146.3
3
23%
113.3
April, May
See
and June
subsection
2009
(1) below
28 Cargo capacity of a aircraft full of passengers for a range where the required amount of fuel does not come at the expenses of useful cargo 29 The range is for a plane full of passengers without cargo 30 In 2009 2 737-800 aircraft were purchased by way of a financial lease, financed and guaranteed by EXIM Bank, see Note 3.16.d to the December 31 2009 Financial Statements. 31 Three of the 777s were purchased using EXIM guarantees and therefore the legal formula states that the aircraft were first leased by the Company, with the Company retaining the right to purchase the aircraft at the end of the period in return for $1.
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The following are purchasing transactions of Company aircraft carried out in the reported period up to immediately prior to the approval of this report: (1) On April 10, 2008, the Company signed an agreement with a Spanish airline, whereby 3 new 737-800 aircraft would be acquired at a total investment of $49 million per plane. On April 17 2009 the first plane was delivered to the Company, on May 20 2009 the second plane was delivered and on June 22 2009 the third plan was delivered. To complete the transaction and finance the purchase, the Company received the approval of the ExportImport Bank of the United States (here: "the Bank" or "EXIM") for $37.6 million in financing for the first aircraft, $37.8 million for the second aircraft and $38.9 million for the third aircraft, in return for their restriction. Pursuant to the completion of the transaction and as part of the financing agreement, in each of the above aircraft deliveries the Company signed an agreement with the Spanish airline to cancel the direct purchase of the aircraft in question, so that the aircraft would be sold by the Spanish airline to Boeing, with the Company purchasing the aircraft directly from Boeing (2) In March 2008, the Company signed an agreement with the aircraft manufacturer Boeing for the purchase of four wide-body model 777-200 long-range aircraft ("the Agreement"). This agreement was approved by the Company's Board of Directors on April 30 2008. Delivery of the planes was originally planned for January 2012, April 2012, November 2012 and January 2013. The total purchase cost of the four planes, including spare parts and installations, is $576 million. In accordance with to the agreement with Boeing, the payments for each plane will be made only two years before the plane is delivered to the Company. Under the terms of the agreement, the Company was granted an option to convert the purchase of the new 777-300ER planes. The Company retained the right to exercise the option by December 31, 2009, subject to the fact that Boeing will not be required to provide the aircraft on the delivery dates in question (this date has been extended from time to time by the parties). Additionally, the agreement contains an additional option granted to the Company to purchase two additional planes of this model, to be delivered to the Company in 2014 and 2015, pursuant to the terms stipulated in the agreement. The Company paid Boeing an advance payment for the purchase of the aircraft and payment for the additional option noted above. Due to material changes occurring to the aviation industry since the signing of the agreement, following the global market crisis and the impact of these changes on the economic, business and financial environment in which the aircraft is active, the Company has decided that the Agreement must be adapted to its needs. In this regard, the Company is in talks with Boeing to alter the Agreement and replace it with a flexible, long-range agreement, the various components of which including the models, amounts and delivery dates of the aircraft should match the Company's needs (which have yet to be established). The following are sales transactions of Company aircraft carried out in the reported period up to immediately prior to the approval of this report: (1) On May 18 2009, a Boeing 757-200, manufactured in 1990, in the company's possession was sold and leased back by the El Al Group via operational lease. The Company received $11.5 million in return for the aircraft. According to the agreement, the Group will lease the aircraft under market conditions for a 27-month period.
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(2) On February 23 2009 a Boeing 757-200 possessed by the Company, manufactured in 1987, was sold and leased back to the Group. The plane was purchased by a Panamanian aircraft leasing company. The Company received $9 million in return for the aircraft as well as a monthly credit for engine maintenance calculation amounting to $1.8 million. According to the agreement, the Group shall lease the aircraft under market conditions for a 22-month period, with the option to extend the lease for an additional 12 months. These transactions have been conducted in accordance with the Company's El Al 2010 business strategy, as detailed in Section 9.15 below, which was adopted in 205. The Company continues with the implementation of the plan in question while making adjustments to general market trends and as of this report, the Company has yet to approve any other equipping plan. B.
The following table details the fleet of aircraft leased by the Company, as of December 31, 2009:
Aircraft type 737-800
Total
Average Age
5
5.7
End of Lease November 2010
Average no. of Seats
Further Details
142
January 2011 October 2015 August 2016 December 2016 757-200
2
20.7
December 2010*
215
May 2011 767-300ER
3
17.1
May 2011
Optional extension for an additional 12 months.
230
November 2011 April 2013 Total
10
12.1
183
Leasing fees for all Company aircraft in this field of activity in 2009 amounted to $53 million compared to $39 million in 2007 and $39 million in 2007. (1) In January 2010 a landing gear maintenance agreement was signed with Turkish airline Atlas Jet. The agreement includes the restoration of 4 sets of landing gear for Boeing 7576 aircraft, by replacing old landing gear with the restored elements. The Company is expected to list revenue of $1.5 million as a result of the agreement. (2) In April 2009 an agreement was signed for the sale of two Boeing 767-200 engines with Volvo Aero Services Corp (VAS) in return for $1.8 million. In January 2010 a consignment agreement was signed for the sale of the airplane parts to VAS. The Company is expected to receive a sum of $800 thousand for the agreement over the course of a three-year period. (3) In March 2009 the Company signed an agreement with Pratt & Whitney for the
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maintenance of PW 4000 engines installed in Boeing 767 and 747-400 aircraft in the Company's service. In addition, in June 2009 an agreement was signed with the IAI regarding the maintenance of additional engines for these morels as part of an insurance agreement. (4) Following the agreement to provide heavy maintenance and logistical support upon request for Nepal Airlines aircraft, signed by the Company in January 2009, it was agreed that the agreement would be expanded in such a manner that four separate inspections would tale place and the Company would provide repairs, logistic assistance and instruction. The Company's expected revenue as a result this agreement is $6 million over the course of 3 years (2009-2011).
8.
Cargo Aircraft Field 8.1 General Information on the Field of Operations The following is a description of trends, events and developments in the Group's macroeconomic environment, which have, or are likely to have, a material effect on operating results or on the developments in the entire Group or in the cargo aircraft-field of operations, regarding the following matters: 8.1.1
Structure of the Fields of Operation and Changes that have Occurred Thereof There are four types of competitors in the cargo air transport market: airlines that carry cargo solely in cargo aircraft; airlines that carry cargo solely in the holds of passenger aircraft; companies, like El Al, that carry cargo both in cargo aircraft and in the holds of passenger aircraft; courier airlines which, in addition to cargo related to courier services, also carry other cargo in their aircraft. In recent years, a trend has increased among airlines studying the possibility of converting passenger craft to cargo craft primarily for economic reasons. The cargo craft in the Company's service are Boeing 747-200 of a relatively advanced age compared to the aircraft fleet in general, and various limitations have been placed on their activity that harm their economic feasibility. As a result of the above he Company has been studying changes in its cargo fleet and operating plan (for details see 8.1.2 bellow). In addition, there is a relatively low global supply of designated cargo craft, and therefore the aviation market has come up with the solution of converting 747-400 passenger planes to cargo craft. This trend is reflected, inter alia, in the transition to passenger aircraft with greater cargo carrying capacity. Continuation of this trend could transfer cargo transport operations from the cargo aircraft field to the passenger transport field. According to the Company's estimates, the Group's portion of the cargo shipping market in 2009, 2008 and 2007 has been assessed at 33.0%, 32.9.0% and 38.0% respectively, out of all cargo transported to and from Israel (including cargo shipped in the holds of cargo craft. Not including Sixth Freedom and including mail activity).
8.1.2
Legislative Restrictions, Regulations and Special Obligations that Apply to the Field of operations In July 2009 the Company submitted a request to the Government Companies Authority for the consent of the holder of the Special State Share, as required by the Company's articles, to remove two 747-200 cargo aircraft from Company service. On the same date, the Company responded to several queries by the holder of the Special State Share on the matter of the Company's plans in this regard, but the State has yet to provide its
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consent. Over the course of 2009 the Company's Board of Directors decided to establish a Board of Directors Committee to study the issue of cargo activity at the Company. The Company's representatives have appeared before the committee. The Cargo Committee has presented its conclusions to the Board, consisting mainly of the gradual retirement of Boeing 747-200 aircraft from Company service, subject to the consent of the holder of the Special State Share. As reported by the Company, it intends to continue with its cargo activity using the holds of passenger aircraft and designated cargo planes, while studying various options for further cargo activity. On February 17 2010, the Company signed a memorandum of understanding ("the Memorandum of Understanding") for the lease of a 757-400 cargo plane, manufactured in 1994, with an Irish aircraft leasing company. According to the Memorandum, the Company shall lease the plane for a 24-month period, with an option to extend the leasing period for an additional 36 months. As part of the Memorandum of Understanding the Company has been granted a right of first refusal and options to purchase the aircraft, in accordance with the understandings between the parties. Completion of the transaction is contingent on the signing or a detailed agreement as well as the receipt of approvals from third parties, including regulatory approvals. In November 2009 the public committee established by the Minister of Transportation and Road Safety in June 2009 to study the Israeli cargo transport industry and to study the state of Israeli airlines dealing in cargo shipping published its conclusions, the key points being that the State would study the cost of the minimal response for the security requirement for transporting cargo in times of emergency in order to reach a grounded decision regarding the State's response to the Company's query, that CAL's request to assist with guarantees would be studies (this under the stipulation of activation of aircraft capable of mobilization in times of emergency), and the section of the CAL operating license prohibiting it from entering into collaborative agreements would be revoked. The Committee saw fit to note that it saw nothing wrong in the existence of cooperation between El Al and CAL, insomuch as this leads to the existence of a fleet for transporting cargo in times of emergency without causing a material impact to competitiveness. In the event that the companies approach the Restraint of Trade Controller with a request for collaboration in the area of cargo shipping, the Committee recommends that approval shall be made conditional, inter alia, on the assurance of proper availability of emergency cargo craft. Subject to this, the Committee recommends that insomuch as Government ministry opinion is required on the subject, the subject shall be considered. The committee added that the possibility of establishing an interministerial committee headed by the Ministry of Defense and with the participation of the Ministry of Transportation, the CAA and the Ministry of Finance, to study specific issues pertaining to cargo transport, shall be considered. The recommendations are supposed to be presented by the Minister of Transportation and Road Safety to the Government for approval. The regulatory restrictions for cargo transportation in cargo aircraft are similar to those applicable to passenger transport in passenger aircraft. For details see 7.1.2 above. Regulatory arrangements have also been set for the cargo field relating to a number of operational aspects, such as permissible flight capacity, responsibility of the air carrier for damages, flight safety standards, security and noise. See Sections 9.10.3 and 9.11 below for details. Nevertheless, the policies of the global aviation authorities in granting permits
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for cargo aircraft have tended to be more lenient than in the passenger aircraft field. The situation especially affects the huge opportunity to carry out flights of cargo aircraft using Fifth Freedom and Sixth Freedom. 8.1.3 Changes in the Volume of Activity and Profitability of the Field (A) Volume of global cargo transported According to IATA data, there has been a growth in the cargo transport field over the past 20 years. During 2008, due mainly to rising fuel prices, which have a direct impact on transport prices, there was a slowdown in global air transport of cargo (including in the holds of passenger aircraft) to a rate of 4.0%. According to IATA estimates, during 2009, global air cargo transport (including in the holds of passenger aircraft) decreased by approximately 13.3%. This decrease, which derived, apparently, from the global financial crisis, is the most significant ever registered in the airborne cargo industry. In October 2009 IATA published its estimates according to which by 2013 an average annual growth (2009-2013) of approximately 1.0% is anticipated in global cargo air transport (including in the holds of passenger aircraft)32. IATA estimates that 2010 will see a 3.9% increase. The following table describes the development of airborne cargo shipping activity between 2004 and 2008, based on IATA data33: Year
Output 34
RTK
Annual change in RTK
(in millions)
(%)
2009
No data
No data
2008
139,435
(2.6)
2007
143,160
3.5
2006
138,320
4.6
2005
132,230
4.2
B) Volume of cargo air transport carried on aircraft from and to Israel The following are data on cargo traffic to and from BGN over the past five years (The data includes cargo carried in cargo aircraft and in the holds of passenger aircraft)35:
32 33 34 35
The IATA projection for 2013 refers to increases in the weight of cargo shipped in tons, without taking the distance flown (RTK) into account 2009 data has not yet been published. Revenue Ton Kilometer - the weight in tons of paid cargo in cargo aircraft multiplied by the distance flown. Source: Civil Aviation Administration and Company estimate, which includes the deduction of Sixth Freedom activity by El Al through BGN and the addition of El Al mail activity.
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Cargo Traffic through BGN (Thousands of Tons) for the Year Ending December 31 2009
Change
2008
Change
2007
Change
2006
Change
from
from
from
from
2008
2007
2006
2005
2005
Export
154
(15%)
182
(9%)
199
9%
183
3%
176
Import
118
(16%)
140
1%
139
3%
135
6%
127
Total
272
(16%)
322
(5%)
338
6%
318
4%
303
A decrease of approximately 15.8%36 in cargo traffic through BGN was posted in 2009 relative to 2008. The main cause for the drop in traffic was the global financial crisis, which was evident in reduced activity in cargo traffic starting May 2008. In addition to the Israeli cargo airline CAL, the cargo capacity of foreign airlines includes cargo capacity on passenger flights and capacity on cargo flights of six companies: FedEx (U.S.), MNG and Turkish Airlines (Turkey), EAT (Belgium), Royal Jordanian (Jordan) and Korean Air (Korea). Nonetheless, over the course of 2009 Korean Air and Royal Jordanian both discontinued cargo flights to and from Israel. Likewise, unscheduled cargo flights were flown through foreign companies, on an ad hoc basis. 50.7% of the cargo traffic through BGN was flown on cargo aircraft and the remainder (49.3%) was flown in the holds of passenger aircraft (primarily wide-body planes). This data does not include cargo that the Group flew via BGN in the context of Sixth Freedom (flight from one foreign country to another via BGN) to the amount of37 0.5 thousand tons, 2 thousand tons, 7 thousand tons and 5 thousand tons in 2009, 2008, 2007 and 2006, respectively. The decrease between 2008 and 2009 in the volume of cargo flown by means of Sixth Freedom is the result, inter alia, of the discontinuation of El Al cargo activity to East Asia in 2008. 8.1.4
Developments in the Field of Operations' Markets, or Changes in its Customers’ Characteristics The Israeli market in the field of operations of cargo transport by cargo aircraft is characterized by high seasonal fluctuations, due to the relatively high importance of agricultural exports (carried out primarily in the winter months), out of total exports. See Section 8.5 below for information on the Company's customers in the field of cargo aircraft shipping.
8.1.5
Technological Changes that could Materially Affect the Field of operations The Company is working to expand and develop advanced IT solutions in the field of airborne cargo, in the field of online trade and in self-service abilities with the goal of improving service and reducing the Company's costs.
36 37
Without deducting the Company's Sixth Freedom activity by means of BGN, the rate of increase in traffic in 2009 was about 17.4%. Data includes cargo that was carried in cargo aircraft as well as cargo carried in the holds of passenger aircraft.
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Starting February 1 2009 the U.S. TSA has required that all airlines shipping cargo in the U.S. on passenger aircraft perform security tests, employing advanced methods and technological means that have been used by the Company for some time. A new system for the management of cargo transaction allowing improved management of cargo transactions entered service in the second quarter of 2009, and use of the online ordering system was expanded. The system is expected to lead to improvements in commercial processes including in the areas of pricing, limitation of the amount of transactions, simplification of the transaction approval process, greater precision in attaching transactions to bills of lading, greater precision in customer billing and improvements in service. In addition, completion of the project will lead to work with a centralized operation system, improvement in the quality of information and improvement in the transparency of information on the network. The information regarding possible implications of the completion of the cargo transaction management via mechanized operational system project and the expected improvements in the company's commercial processes represents Forward-Looking Information, as defined in the Securities Law. The information is based in its entirety on the Company's estimates as of this report. Therefore, the actual implications may be materially different from those forecast, as the result of many factors, including technological factors, the Company's ability to implement the new system and its actual implementation as well as changes in cargo aircraft activity levels 8.1.6
Critical Success Factors ion the Area of Activity and Changes Occurring Thereof A number of factors can be pointed to in the operations of the cargo transport sector via passenger aircraft that affect the field's competitive position: the ability to offer the transport of cargo to popular destinations at competitive prices; development of a network of routes on an independent basis, including the possibility of carrying out Fifth Freedom Flights and Sixth Freedom Flights, both as operations supporting transport to and from Israel; cooperation with other airlines; offering transport at the frequency and quality demanded while meeting time schedules; risk management and risk hedging.
8.1.7
Changes in the Supplier Network and the Raw Materials for the Field of Operations The primary raw material used by airlines is jet fuel and it represents one any airline's major expense components. See Section 9.5.1 below for additional details relating to fuel. In addition, as the Company's entire passenger plane fleet was manufactured by the Boeing Corporation, the Company is dependent upon this manufacturer for everything involving regular maintenance of its aircraft, as regards parts and repairs.
8.1.8
Main Entry and Exit Barriers of the Field of Operations and Changes that have Occurred Thereof The regulatory entry barriers (the need for appointment as Designated Carrier and the permits as to frequency, capacity, etc.) for regular flights in cargo aircraft are similar in essence to the regulatory entry barriers for scheduled flights in passenger aircraft. See Section 7.1.8 above and Section 9.11 below for details. The Company assesses that some countries have a more liberal policy of granting permits
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in the field of cargo transports. Therefore, in the Company’s assessment, this entry barrier is less significant for some countries in the cargo field. Another important entry barrier in the industry is the initial, relatively large investment that is necessary in order to establish and operate an airline, including acquisition of aircraft and other substantial current investments, including aircraft leasing. Under international aviation agreements, obtaining appointment as a Designated Carrier is conditional upon substantial ownership and effective control of the air carrier being held by the government or citizens of the country that has specified that it be a Designated Carrier. This requirement represents an entry barrier for obtaining appointment as Designated Carrier by foreigners. See Section 7.1.8 above for details on changes in this condition under the terms of aviation agreements of the State of Israel. The limitations of the holder of the Special Government Share in the matter of the reduction of the Company's cargo fleet constitute an exit barrier. See Section 9.11.1 below for further details. 8.1.9
Substitutes for Services of the Field of Operations and Changes that have Occurred in them The principal substitutes for air transport in cargo aircraft are transport in the holds of passenger aircraft, maritime shipping or a combination of maritime shipping to the nearest destination port and from there, shipment overland. The Company estimates that the major considerations in selecting air transport over ocean and/or land transport are the nature of the product, the requisite shipping conditions, the necessary period and the transport costs. In 2009, no material changes occurred in the substitutes for transport by cargo aircraft.
8.1.10 Competitive Structure of the Field of Operations and Changes that have Occurred in it There has been a structural change in the industry in the Israeli market in recent years, due to increased sources available to customers with the entry of new airlines with cargo aircraft, inter alia, by means of the Fifth and Sixth Freedoms, upgrade of the passenger aircraft of the foreign airlines to broad-body planes capable of carrying more cargo in their holds and also by the entry of an additional Israeli cargo carrier- C.A.L. Cargo Airlines Ltd. (above and below: “CAL”). See Section 8.7 below for further details.
8.2 Services in the Field of Operations In this field of operations, the Group offers cargo transport services in cargo aircraft from Israel to destinations to and from Israel; cargo transported from one foreign country to another foreign country (Fifth Freedom), for example from Liège to New York; or cargo transported in the context of Sixth Freedom (indirect flights via stopovers in the home country of the airlines), for example from Asia to Europe or the U.S. with a stopover in Israel. The Group differentiates between three main destination groups: (1) North America; (2) Europe; (3) East and Central Asia. During the reporting year, the services offered by the Group in this field of operations were cargo transport services to one destination in Europe and one destination in North America. Moreover, the Company offers cargo services to many additional destinations by means of the Group’s passenger aircraft or by means of cooperative arrangements with other airlines and also by means of land transport from the airport.
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A process was completed on October 6 2008 in which European cargo activity was concentrated at Liège Airport, Belgium, which constitutes a single central hub as an alterative to cargo activity in three airports in the Benelux region. The key advantages of the move to Liège Airport are the absence of noise restrictions allowing stable and appropriate timetables and greater flexibility, a central European location and accessibility to a broad ground transport network, veterinary and customs services for the agricultural sector and shortened flight times. The shipping services provider providing storage and expansion services as well as customer services for El Al is a new shipping company operating our of Liège – Aviapartner Cargo. The following is a breakdown of the volume of cargo traffic in the Group’s cargo aircraft, by principal destination category, in the years 2006 to 2009: Cargo Traffic in Group's Aircraft, by Region (Tons) for the Year Ending December 31 To and from Israel and
2009
2008
2007
2006
34,796
41,281
55,129
63,727
6,202
13,364
15,170
14,445
--------
3,451
13,292
14,997
40,998
58,096
83,591
93,169
Europe To and from Israel and the U.S. To and from Israel and East and Central Asia Total
These data do not include cargo which the Group flew other than via BGN in the context of Fifth Freedom and cargo which the Group carried by air, via BGN, in the context of Sixth Freedom. The Group flew cargo by Fifth Freedom to the amount of 3 thousand tons, 7 thousand tons, 21 thousand tons, and 23 thousand tons in 2009, 2008, 2007 and 2006, respectively. The Group flew cargo by Sixth Freedom to the amount of 0 thousand tons, 1 thousand tons, 5 thousand tons and 3 thousand tons in 2009, 2008, 2007 and 2006, respectively. The principal markets for cargo transport services are importers, industrial enterprises and the agricultural sector. On February 3 2010 the Company signed a framework agreement with Maman, which operates a cargo terminal at Ben Gurion Airport, regarding the receipt of terminal services from Maman. See 9.12 for further details
8.3 Analysis of Service Revenues and Profitability 2009 saw a 5% reduction in the Group's revenues from its areas of activity relative to its revenues in 2008, with a 15.8% reduction in cargo transport through BGN in 2009 relative to 2008.
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For information regarding the breakdown of the Company’s revenues and profitability (consolidated) by the Company's reported operating segments in the area of cargo aircraft shipping see Section a.5 of the Board of Directors report.
8.4 New Services From time to time, the Group studies the prospects of operating flights to new destinations and increasing the frequency of the flights to existing destinations, in accordance with market demands.
8.5 Customers, Marketing and Distribution Most of the Group's sales in the cargo aircraft transport field are made through cargo agents (81.6% in 2009). The remaining sales are made directly to customers. In the field of transport using cargo planes, the Company does not have any customer from which the Group’s revenues amount to 10% or more of total Group revenues. In addition, the Israeli company for cargo consolidation (ACI), 50% of the shares of which are held by El Al (without the right to receive dividends), is engaged in consolidation of air cargo at BGN and its transfer abroad, mainly by El Al. ACI, like other airlines that operate in this field, consolidates the cargo of individual dispatchers into one shipment and, as a dispatcher, transfers it to El Al for shipment. In this way, it avoids interaction with a large number of dispatchers and cargo recipients, leading to cheaper air transport costs of consolidated shipments. In January 2010 the Company reached an agreement on the principles of the update of its agreement with Agrexco Agricultural Exports Ltd. (hereinafter: "Agrexco") for the airborne transport of agricultural export cargo, in order to maintain existing activity between the companies. The agreement was to remain in effect for a period of one year from December 2009 to November 2010.
8.6 Reservations Backlog In general, air transport of cargo in cargo aircraft is carried out near the execution of the service reservation. Therefore, the Group did not have a significant volume of reservations backlog during 2009.
8.7 Competition 8.7.1
Competitive Conditions in the Field of Operations A.
The cargo aircraft transport field is characterized by strong competition between the airlines that supply transport services between the same destinations or alternative destinations. The airlines compete in different areas, mainly: transport rates, schedule of flights and frequency of flights.
B.
In recent years, the Civil Aviation Authority has tended to approve requests of foreign scheduled airlines to increase the frequency of their flights to Israel. As a result, an increase has been apparent in the capacity of cargo shipping in the holds of passenger aircraft of foreign airlines. This increase has led to intensifying
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competition in cargo shipping as well. C.
The significant increase in the flight capacity of regular foreign airlines referring to the passenger aircraft field of activity also led to a significant increase in cargo shipping capacity in the holds of passenger aircraft operated by regular foreign airlines to and from Israel. In light of the above, competition in the industry has intensified in the field of cargo aircraft activity. According to the Company's estimates, this trend of intensifying competition is expected to continue in 2010 in light of the entry of additional foreign airlines, increased capacity and/or frequency of airlines operating in 2009 (including expanded destinations), this in addition to the option of transporting cargo on charter flights to specific destinations. For further details on increased competition see 7.1.10 above.
D.
Until 1999, the Company was the sole Designated Carrier of the State of Israel to most of the destinations to which it operates regular flights of cargo aircraft to and from Ben Gurion Airport. In recent years, other foreign airlines operating cargo aircraft have entered the field of operations in Israel. Starting 1999, CAL was given a full commercial operating license and, over time, it was appointed as Designated Carrier to a number of destinations. CAL operates one 747-200 cargo aircraft, which it owns (after its second aircraft was decommissioned in May 2009), and leases additional aircraft as needed. As of the date of the report, CAL operates flights to various destinations in the United States and Europe. The granting of a full commercial operating license to CAL led to a reduction in the Group's cargo operations. Previously, CAL had requested appointment as Designated Carrier to additional destinations to which El Al is the sole Designated Carrier, and as to which, under current aviation agreements, no more than one Designated Carrier may be appointed.
E.
In 2009 the Group competed for cargo transport in cargo aircraft to and from Israel with six foreign airlines (in addition to CAL), which operated cargo aircraft in flights to and from Israel. At the same time, over the course of 2008, Korean Airlines and Royal Jordanian discontinued their cargo operations. Korean Airlines continues to transport cargo in three weekly rounds of flights in combination passenger-cargo aircraft.
F.
An agreement was reached between Israel and Germany in January 2009 for 7 cargo frequencies per week for each side's Designated Carriers (compared to three frequencies to date). Following this, in March 2009 the Ministry of Transportation announced that CAL would be appointed Designated Carrier for cargo flights to Frankfurt and Cologne in Germany. The Company estimates that the above changes may affect the amount of cargo transported by the Group to Europe.
The information regarding possible implications of such agreement regarding the scope of the Company's cargo shipping activity to Europe is Forward-Looking Information as defined in the Securities Law. The information is based entirely upon the Company's estimates as of this date. Therefore, the actual implication may be materially different from projections as a result of a large number of variables, including changes in the scope of activity in the field, realization of the agreement by the Designated Carriers for the Germany route to carry out flights to these destinations and the level of competition with other competitors.
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8.7.2
G.
The Group competes with most of the scheduled airlines that operate passenger aircraft and carry cargo in their holds38. According to statistics of the Civil Aviation Authority, 40.3% of the air transport of cargo to and from Israel during 2009 was carried out in the holds of passenger aircraft (primarily wide-body aircraft) in scheduled flights, while the remaining cargo (50.7%) was flown to and from Israel in cargo aircraft.
H.
Changes to competition were also evident as a result of the initiation of weekly flights on the Tel Aviv-Philadelphia route by U.S. Airways employing an Airbus 330-200 plane. In January 2010 BMI discontinued its activity on the UK route.
I.
Lufthansa and Austrian Airlines have recently announced that they would be merging their cargo departments starting July 1 2010.
Major Competitors in the Filed of Cargo Aircraft Transport To the best of the Group's knowledge, its most significant competitor in transport through cargo aircraft, from the standpoint of market share, is the CAL Company.
8.7.3
Key Methods for Coping with Competition The Group acts on a number of levels in order to raise its profitability, while retaining and increasing its market share and also increasing the volume of the cargo its transports as follows: A.
Conforming their timetable, as much as is possible, to the seasonality of traffic and maintaining the timetable's stability.
B.
Increasing the frequency of flights to popular destinations and increasing the number of flight destinations by cooperating with other companies.
C.
Offering competitive prices.
D.
Adding to the frequency of the Company’s cargo flights between two foreign countries.
Positive factors that affect, or are likely to affect, the Group’s competitive position include: leasing a designated 747-400 cargo plane; a strong brand name in the local market; a high standard of service, high safety levels; timetable stability and on-time performance. Negative factors which affect, or are likely to affect, the competitive position of the Group include: the possibility of appointing in Israel additional competitors as Designated Carrier or to additional destinations; regulatory changes that restrict the option of entering into agreements with other airlines or prevent the utilization of flight rights; the entry of new, foreign competitors; increases in flight capacity of foreign airlines (including fifth and Sixth Freedoms); downturn in the economic, security and political situation in Israel.
8.8 Seasonality The field of operations is characterized by high seasonal fluctuations due to the relatively strong influence of agricultural exports out of total exports by means of cargo aircraft. 38
In recent years, there has been intensification of a trend of transporting cargo in the holds of cargo aircraft. This trend is expressed, inter alia, in the transition to passenger aircraft with larger cargo carrying capacity.
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The following are data on the breakdown of the Group’s quarterly revenues from cargo aircraft:
Year (in Millions of Dollars)
Quarter (in Millions of Dollars) Year 2009 % of operating sector 2008 % of operating sector
January-
April-
July-
October-
January-
March
June
September
December
December
19.2
11.9
12.0
15.2
58.3
32.9%
20.4%
20.6%
26.1%
100%
48.6
36.1
29.3
25.5
139.5
34.8%
25.9%
21.0%
18.3%
100%
8.9 Productive capacity The accepted indices of output for cargo air transport in cargo aircraft are the load factor39 and ATK40. During peak demand (in 2009 - March), the Group's productive capacity group approaches its full potential output. In March 2009, the Group's ATK was 28,926 ATK (including the convertible aircraft) and the load factor stood at 69.5% It should be emphasized that load factor indicator is computed solely based on cargo weight and does not take cargo volume into consideration.
100 80
ATK (monthly average, 000,000) 83
60 40
66.6%
71.1%
39
20
22
0
40
65% 55% 45%
2006
39
85% 75%
76 71.7%
65.1%
L.F.
2007
2008
2009
Load Factor - computed as RTK (weight in paid tons multiplied by distance flown) as a percentage of ATK (available cargo capacity multiplied by distance flown). Available Ton Kilometer - available cargo capacity multiplied by distance flown.
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The following graph describes the average monthly load factor and ATK per quarter in 2009:
35
ATK במיליונים- ממוצע חודשי
L.F.
80%
30 25 20 15
85%
28
68.5%
68.4%
70.0%
20
18
77.7% 20
75% 70% 65% 60%
10
55%
5
50%
0
45% Q1-2009
Q2-2009
Q3-2009
Q4-2009
8.10 Aircraft Fleet A. As of immediately prior to the approval of report, the Company makes use of one Boeing 747-200 cargo aircraft. The second 747-200 owned by the Company has been removed from service due to the need for major maintenance works, which were not conducted by the Company. For the Company's request from the holder of the Special State share for permission to dispose of both of the cargo craft in its possession as well as to lease a Boeing 747-400 cargo craft, see 8.1.2. Note that in the past the Company received the approval of the holder of the Special State Share, in accordance with the provisions in the Company's articles pertaining to the reduction of the Company's cargo fleet to two. B. The following table itemizes the fleet of cargo aircraft owned by the Group, as of December 31 2009: Type of Aircraft 747-200F
Total 2
Average Age (in
Maximum Carrying
Years)
Capacity
29.5
127 Tons
C. In addition, the Company leases cargo aircraft in “wet leases” (aircraft leased with its crew) as needed. D. As described above, the Company is acting to replace its entire 747-200 due to reasons of economic feasibility in operating the fleet due to the advanced age of the aircraft and the problem of complying with the maximum permissible engine noise restrictions in various airports worldwide (See Section 9.10.3 below for details of noise restrictions). E. Total leasing costs borne by the Company in this field of operations amounted to $681,000 in 2009 versus $660,000 in 2008. The Company did not lease cargo aircraft in 2007.
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8.11 Raw Materials and Suppliers The principal raw material employed by the Company is fuel. See Section 9.5.1 for further details. In the cargo aircraft field, the Group, in its various stations throughout the world, engages suppliers dealing in unloading and loading aircraft, in cargo storage in warehouses and in land transport of the cargo from the customer to the airport and vice versa. The proportion of expenses related to commitments with these suppliers 2009 accounted for some 15% of the operating sector’s expenses. The Group was not dependent on any single supplier in 2009.
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9.
Details on the Two Fields of Operations 9.1 Fixed Assets and Installations 9.1.1 Real Estate A. The Group owns an area of 1,560 square meters in the El Al Building in Tel-Aviv, which serves as the offices of the Company's Israeli branch. The Group also owns offices in Spain (Madrid) and Argentina (Buenos Aires) with a total area of 269 square meters. B. The following is a list of the major real estate properties leased by the Company in Israel: Parties to the Agreement
Consideration
Contract Period & Extension Option
The El Al compound at BGN with an area of approximately 290 thousand square meters.
License agreement between the Airports Authority (licensor) and El Al (licensee)
See subsection (e) below
Contract effective until December 31, 2010. There is also an extension option for an additional 25-year period.
Warehouse in BGN with an area of 4,380 square meters.
License agreement between the Airports Authority (licensor) and El Al (licensee)
Annual usage fees of $480 thousand
Agreement effective until December 31, 2009
Areas at BGN Terminal 3
See subsection (f) below
See subsection (f) below
See subsection (f) below
Areas at BGN for the Company’s Cargo flight operations, including space in the Maman building amounting to 275 square meters
Agreements between El Al, Maman Cargo and Handling Terminals Ltd.
Annual usage fees of $140 thousand
Agreement extended to December 31, 2011.
C. The Group leases space in various places in Israel for use as offices, shops and warehouses with total space of approximately 1,135 square meters, for which the Group pays annual rental fees of approximately $200 thousand. D. The Group rents various real estate properties all over the world, in the key destinations to which it flies, used to maintain its current operations, mainly offices in cities and stations at airports. The total expenses for rent abroad during 2009 totaled $5,910 thousand. The principal properties are in New York (approximately 3,400 square meters with annual rental fees of approximately $1,170 thousand), in London (approximately 2,860 square meters with annual rent fees of approximately $1,300 thousand) and in France (approximately 1,350 square meters with annual rental fees of approximately $641 thousand). E. Land usage rights at Ben Gurion Airport (BGN):
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Ben-Gurion Airport (BGN) serves as the Group's home port and central base of operations. The Group’s headquarters, hangars, aircraft parking areas, workshops, warehouses and other offices and installations are located at BGN. Most of the offices, hangars and other buildings used at BGN were constructed on land to which the Group has long-term usage rights. Under the auspices of the agreement dated June 1992 with the Airports Authority (AA), as amended in February 1995, the Company has the usage right (permit) to 29 hectares of land at BGN through December 31, 2010. This period may be extended for an additional 25-year period under the terms of the contract or under other terms as will be agreed upon with the AA. It appears that exercise of the option will be subject to the payment of Purchase Tax. According to the aforementioned agreement, AA permits the Company to use property and the access roads to it and also allows the Company to operate on property and/or use it for services of an aviation company. The agreement gives AA the right to demand that the Company vacate space and/or a building that it need for the operations, safety, development or security of the airport.
the the the will
In 2005, the Company paid $960 thousand in licensing fees for the aforementioned usage rights, and starting 2006 and thereafter, the licensing fees will rise by 7.4% per annum until the end of the contract period, not to exceed $4 million per annum. In accordance with an October 19 2004 amendment to the agreement, in addition to the payment for the land, the Company will pay annual usage fees to the AA for certain fully depreciated buildings and installations. The annual payment will be at a rate that will rise gradually (in accordance with and contingent upon the quantity and type of buildings, which become fully depreciated each year), starting with $900 thousand in 2006 and reaching approximately $4,000 thousand in 2025. F.
Terminal 3: The agreement to provide a permit for operating a passengers’ lounge (1,500 square meters) was signed on December 11, 2006, and the Company had been operating the lounge since November 2004. The agreement will be in effect for 6 years starting November 2, 2004 at a total consideration of up to $1,750 thousand per year, including an extension option for another 3 years. Agreements for a permit for the other areas were also signed, covering a period of 10 years starting November 2, 2004 at $1,770 thousand a year. In the context of the operations of Terminal 3, the Group considered whether to set up an aircraft maintenance center adjacent to Terminal 3. For this purpose and in preparation for the move to Terminal 3, in April 2000 the Company signed an agreement in principle with the IAA to lease approximately 2 hectares in order to set up a maintenance center, a hangar and supporting facilities near Terminal 3. The IAA Board of Directors ratified the transaction but it is subject to the signing of a detailed agreement between the parties and the ratification by the Company's Board of Directors. As of this report, no detailed agreement has yet been signed between the parties. Note that the Company pays a yearly retention fee for the areas in question of an insignificant sum. The Company has received notice from the IAA stating that the IAA apparently cannot uphold the agreement and allow the Company to construct a hanger for large aircraft at the location decided upon. In light of this notice, the sides have been holding talks to find an acceptable solution.
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9.1.2
Accessories, Spare Parts and Spare Engines The Company keeps accessories, spare parts and spare engines in its warehouses, with a total book value of approximately $97 million as of December 31, 2009. In recent years, the Company has begun to purchase external logistic support services from designated suppliers abroad to complement the spare parts purchased by the Company. See Note 16 to the Financial Statements for additional details of fixed assets.
9.2 Insurance The Company’s insurance coverage is mainly related to two aspects: insurance of the different types of Company property and legal liability insurance for property and bodily injury. El Al's airline liability insurance is limited to a ceiling of $1,500 million per occurrence. After the September 11 attacks in the United States, the policy provides a response to bodily injuries of passengers resulting from acts of terror and war within these boundaries, while third party damages are insured by the same policy to the extent of $150 million. Therefore, the Company purchased additional insurance coverage of $850 million, above and beyond the first layer of insurance, so that the total insurance protection against third party damages arising from acts of terror and war amounts to $1,000 million. According to the Company's estimates, this coverage suffices to provide the proper insurance protection for its operations. The hull all-risk insurance of the aircraft owned by or in the service of the Company, or as regards loss or damage to aircraft for which the Company has agreed to be responsible for insurance, is based on “agreed value” of each aircraft and includes deductible levels acceptable in the aviation industry. Insurance of aircraft hulls against dangers of war and similar risks covers, inter alia, acts of war, terror actions, civil war, strikes, riots, malicious damages, hijackings and confiscation. It should be noted that, at the request of K'nafaim, the Company's controlling party, the Company entered into an agreement with it, according to which joint application was made to the Company's insurers. As of the report date, the Company's insurance policies include "contingent stratum" rider 19 11 aircraft owned by the K'nafaim Group leased to various airlines. The insurance is designed to insure the rights of the K'nafaim Company in the event that the lessors or their insurers breach their insurance obligations. The incremental premium for this rider amounts to approximately $ 65,000 per year, and, according to the agreement between the Company and K'nafaim, K'nafaim is responsible for this entire incremental premium, and also pays the Company an additional 15% of the incremental premium. Additionally, K'nafaim undertook to be responsible for additional premiums that the Company may be required to pay, if and when such demand should be made. The Company is also covered by various insurance policies, which Company assesses are sufficient to provide insurance coverage adequate for the primary risks to which the Company and its employees are exposed. These refer to policies to insure employers’ liability, insurance of buildings against fire, earthquakes and the like, personal accident insurance for company employees, etc. The policies are renewed annually. Group directors and executives are insured by director and officers' liability insurance in the framework of the insurance coverage prepared by K'nafaim, in accordance with an
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agreement with K'nafaim. See Section 29a of Chapter D (further details on the Corporation's activities) for details. The overall cost to the Company for insurance premiums during 2008 was approximately $7 million.
9.3 Intangible Assets The Group owns the trademark: “El Al”, which is the protected trademark of the Group. A registered trademark is valid in Israel for limited periods fixed by law, and may be renewed at the end of each period. In addition, the Company owns the trademark for "El Al" in the U.S. as well. In the Group’s assessment, the economic lifespan of the “El Al” trademark covers a multi-year period, being part of the Company’s name, and due to the many years that this symbol has been used and its dominant market position. See Section 9.11 below details as to licenses and flight rights given to the Group. See Note 17b to the Financial Statements for details regarding the usage rights of the Company regarding security equipment.
9.4 Human Resources 9.4.1
Organizational Structure Determination of the Company's general policies and supervision over the activities of the CEO are the responsibility of the Company’s Board of Directors. Day-to-day management of the Company’s affairs has been assigned to the CEO, who is assisted in his duties by the management team, serving as the Company head office, and composed of the CFO, the Maintenance and Engineering VP, the Commerce and Aviation Relations VP, the Human Resources and Administration VP, the Service VP, VP of Operations, the IT and Organization VP, the Cargo VP, the General Counsel and Corporate Secretary, the CEO's Chief of Staff and the Company Internal Auditor. For details regarding the CEO's terms of employment see Section 9.4.16 below. During 2009 and until the approval of this report, the following changes took place in the Company's head office: (a)
In February 2009, sales bodies in Israel and abroad (including the Israel branch and the regional sectors responsible for foreign activity) were transferred from the trade division to the service division, which from that date became the Service Division (for further details see the organizational chart in this Section below).
(b)
In Q2 2009 the managerial staff of the Company’s cargo operations was reduced upon the conclusion of the employment of the VP of Cargo. The Company's cargo activity is the responsibility of the Head of Cargo.
(c)
In Q2 2009 the responsibilities of the Head of Organization and Methods were downgraded.
(d)
In February 2010 the Head of South American Sector was separated from the Head of Western Europe Sector (who until then was responsible for South American activity).
The following is a flowchart depicting the Group's organizational structure:
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*
Head of Security Division and Safety and Head of Quality Division report to the CEO and coordinate with the VP of Operations.
*
Company Security Officer reports to the CEO and coordinates with VP of Human Resources and Administration.
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9.4.2 Employees in Service As of December 31, 2010, the Company employed 5,896 employees, of whom 3,761 were permanent employees [including 336 employees working overseas (of them 23 are Israelis posted abroad)] and 1,772 temporary employees (116 of whom are abroad) 41. The following is information regarding regular and temporary employees as of March 1 2010, December 31 2009 and December 31 2008: Position
March 1 2010
December 31 2009
December 31 2008
Permanent Employees
3,791
3,733
3,718
Temporary Employees
1,772
2,074
2,029
Total Employees
5,563
5,807
5,747
The extreme seasonality in the industry necessitates that labor be modulated, with a variable number of employees, conforming to demand. Personnel employed by the State also work as part of the Group’s security system, and the Company pays one-half of their salaries (in accordance with the splitting of security costs between the Company and the State - see Section 9.11.12 below for details). The following is the breakdown of the Company's permanent employees in Israel and abroad as of December 31, 2009 and December 31, 2008, according to their fields of employment: Position
December 31
December 31
2009
2008
Executives
44
45
Marketing, sales and cargo
458
458
Pilots and flight engineers
523
516
Flight attendants
385
372
Ground operations, security, control, operations
596
615
1,101
1,077
626
635
3,733
3,718
and service Maintenance, overhaul, engineering and control Auxiliary services 42
Total permanent employees
41
42
The breakdown of temporary employees by fields of employment was flight attendants (810), ground operations and services (500), maintenance and engineering (105), marketing, sales and cargo (46), overseas (116), with the remainder in other functions (195). Includes generation A and generation B permanent employees (next generation).
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9.4.3
Significant Dependence on a Particular Employee The Company is not dependent on any one particular employee.
9.4.4
Investment in Instruction and Training The Company’s training center has been designated a “certifying institute” under the Flight Regulations (Testing Institute, Authorizing Institute and Self Maintenance), 1979. The center trains workers and holds training courses for most of the professions needed by the Group: pilots, flight engineers, aircraft technicians, flight attendants, traffic officers, ground stewards, reservations and ticketing personnel, marketing and sales managers, junior management, etc. In addition, the Company holds courses and study programs for travel agents and cargo agents in Israel and abroad. Other than its activities in the training center, the Company assists its employees in acquiring technological schooling and higher education. The Company also sends employees to study programs and professional and management courses abroad and in Israel as well as studies for an academic degree. The Company invested approximately $8 million in employee instruction and training in 200943.
9.4.5
Employee Compensation Plans A. See Section 3.3 above for details of the rights of the employees and of the Company to purchase shares from the State. C. On February 26, 2006, the Company's Board of Directors resolved to adopt the 2006 Option Plan for Company employees and executives (in this section: the Plan). On that date, the Board of Directors confirmed that the number of options which would serve as a pool for allotment under the Plan would stand at 17,092,129 options, exercisable for 17,092,129 ordinary shares of the Company with par value of NIS 1 each, subject to adjustments. Likewise, the Company's Board of Directors approved an allotment of 17,092,129 non-marketable options to some 50 offerees, including some 10 senior executives of the Company and some 40 other Company executives. The allotment of the options to the Company's executives was also ratified by the Company's Audit Committee on February 26, 2006. The allotment of the options was described in an outline published by the Company on February 27, 2006, and amended on March 15, 2006. The allotment of the options was conditional upon the approval of the General Meeting of the Company for the increase in the Company's registered capital. Such approval was obtained on March 23, 2006 and the allotment was executed on the same day. These options were not registered for trade on the stock exchange, although the underlying shares were registered for trade on the stock exchange. The options were allotted on the capital gains track with a trustee, under Section 102 of the Income Tax Ordinance. The options will vest and become exercisable in equal parts over a 4-year period,
43
These costs include the direct training budget, payments for simulator practice, including related expenses, and also the salaries of employees during their training period.
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beginning from January 1, 2007 (one quarter of the options will vest each year,), conditional upon the offeree being employed by the Company, or rendering services to the Company, on the vesting date. The Program also permits the acceleration of vesting under certain circumstances unless the options had expired earlier according to the provisions of this Program. All options granted but not exercised, will expire and be cancelled 3 years from the date each option became vested (on January 1 2010 the first batch of options allocated executives according to this plan and vested January 1 2007 expired and were not exercised). The theoretical exercise price of one option into one share will be NIS 2.9733 (85% of the average price for the 30 trading days that preceded the allotment date). The exercise price is the theoretical price not paid by the employee. In the event that the option is exercised, the employee will be entitled to shares in a number equivalent to the difference between the price of the exercise share (the closing price on the TelAviv Stock Exchange of one ordinary Company share at the end of the trading day on which the Company received the instruction to exercise) and the theoretical exercise price, multiplied by the number of options for which a notice of exercise was given and divided by the price of the exercise shares. Upon exercise, the Company will convert the amount of par value of the underlying shares allotted from "capital reserve" to "share capital" in its financial statements, in accordance with Section 304 of the Companies Law 5759-1999. If this will not be possible, the Plan Administrator will prescribe instructions to allot the underlying shares to the offerees for no consideration, in a manner that the benefit to the offerees will not be reduced. The theoretical exercise price is subject to customary adjustments in the event of dividend distributions and changes in composition of the Company's capital. See Note 30.i.1 to the December 31 2009 Financial Statements regarding the accounting implications of this Plan. On May 23, 2006, the Company's Board of Directors decided to add 3,000,000 options to the pool of options for issuance pursuant to the 2006 Options Plan. Additionally, the Board of Directors appointed the Human Resources and Appointments Committee of the Company's Board of Directors as Administrator of the 2006 Options Plan and authorized the Committee to allot options to executives of the Company in accordance with the guidelines stipulated by the Board of Directors. In addition, the Board of Directors approved publication of an outline that was published on May 29, 2006. Following that, on December 27, 2006, the Human Resources and Appointments Committee of the Company's Board of Directors decided to allot 3,027,536 options to nine Company executives. The Company allotted the options on December 31, 2006. The theoretical exercise price of each option among those allotted on that date for one share stood at NIS 1.8894 (85% of the average closing price on the Tel-Aviv Stock Exchange of one ordinary share during the 30 trading days prior to the allotment date). See Note 30.i.2 to the December 31 2009 Financial Statements for the accounting implications of the plan in question. On November 20, 2007, the Company's Board of Directors approved publication of an outline (published on November 21, 2007), for the purpose of the allotment of options that had been returned to the pool of options that may be allotted under the terms of the 2006 Options Plan, out of the original quantity, as provided in the outline dated February 27, 2006, and as amended on March 15, 2006 and/or the additional quantity as provided in the outline dated May 29, 2006, for a total of 3,382,843 options.
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Likewise, the Board of Directors approved the allotment of 2,195,852 options to 6 offerees (including one officer), subject to the receipt of the requisite approvals. The Company's Board of Directors approved the appointment of the Human Resources and Appointments Committee of the Company's Board of Directors to continue to serve as the administrator of the 2006 and 2007 Options Plans, and to allot options to the Company's executives according to the standards prescribed by the Board of Directors. On December 26, 2007, the options were allotted. The theoretical exercise price of one option, among those allotted on this date, for one share, equals NIS 2.007 (85% of the average closing price on the Tel-Aviv Stock Exchange of one ordinary share during the 30 trading days prior to the allotment date). See Note 30.i.3 to the December 31 2009 Financial Statements for the accounting implications of the options. As of December 31, 2009, the total options issued under the 2006 and 2007 Options Plan after deducting the options returned to the pool for any reason, equals 15,244,950 options. As of March 18 2010, the total amount of options issued under the 2006 and 2007 Options Plan after deducting the options returned to the pool for any reason, equals 10,767,424 options. See Note 30.i.5 to the December 31 2009 Financial Statements for further details. On January 6 2010 the Company’s Audit Committee and Board of Directors approved a private allocation of 9,914,382 options to the Company's CEO. See Note 30.i.7 to the December 31 2009 Financial Statements for further details. 9.4.6
Exemption from the Budget Fundamentals Law The Company’s request for exemption from Section 29 of the Budget Fundamentals Law was approved by the Minister of Finance, and was ratified by the Knesset’s Finance Committee on March 17, 2005.
9.4.7
Special Collective Agreements In addition to labor legislation and extension orders, the terms of employment of Company personnel employed in Israel, with the exception of the executives and other personnel employed under personal agreements, are organized in special collective agreements which are signed from time to time between the Company and the New General Workers Histadrut (above and below-“the General Histadrut”) and also by procedures that are occasionally issued by management. In early 2010, the pilots employed by the Company announced that they had left their employee organization – the New Histadrut – and had become members of a different organization, the Israel National Workers Histadrut (hereinafter: "The National Histadrut"). The National Histadrut filed a petition before the National Labor Court that it recognize the pilots as a separate bargaining unit at the company, and as a result rule that the National Histadrut constitutes their sole representative. The Pilots' Union, which was added as a respondent to the proceeding, supported this position. The position of the General Histadrut and that of the employees' representatives, added as respondents, was that according to the collective agreement applicable to the relationship between the Company and its employees, it was agreed that all Company employees constitute a single bargaining unit and that there is no justification behind recognition of the pilots as a separate bargaining unit. A hearing was held before the
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National Labor Court on March 8 2010, and the Court is expected to rule on the issue. This suit has no immediate financial implications, but if it is accepted, it may impact the Company's work relations. The following is a concise description of the main collective agreements, applying to the Company and its employees. A.
Special Collective Agreement for Permanent Company Employees (“Generation A Agreement” or “the Collective Agreement”) The special collective agreement applies to all of the Company’s permanent employees in Israel, including air crews. The agreement does not apply to senior employees (executives and others), who have personal employment agreements, nor to temporary employees who have their own special collective agreement. The agreement regulates all of the terms of employment of the permanent employees, and stipulates, inter alia, work procedures, basic rights and obligations, productivity incentives44, appointments and stationing abroad, internal tenders, insurance, pension arrangements, dismissal procedures, response to disciplinary violations, rights to free and discounted airline tickets and a conflict resolution apparatus. The agreement forbids strikes and sanctions, unless the strike has been declared by the Histadrut in compliance with the Law for Settling Labor Disputes, 1957, and subject to the Histadrut constitution, including a vote via secret ballot by all employees. According to the agreement, all permanent employees of the Company are ranked based on an enterprise wage ranking, which has no connection to national rankings. There are a number of rankings: ground employee ranking; “veteran” air crew personnel ranking; a separate ranking at lower wages for “new” air crew personnel; “veteran” flight attendant crew personnel ranking and a separate ranking at lower wages for “new” flight attendant crew personnel. On November 2 2008, the collective employment agreement was signed by the Company, the employees' representatives and the Histadrut ("the Agreement"), after the Company's Board of Directors ratified the agreement on October 27 2008. The key points of the Agreement are as follows: • The Agreement shall remain in effect until December 31 2012. • Industrial peace and discipline - a commitment exists to uphold industrial peace for the duration of the agreement, while focusing on competition and growth challenges. The Company, the Histadrut and the employees' representatives shall conduct joint activities to promote and maintain order and discipline in the Company. The Company's authority as regards the termination of employees guilty of severe disciplinary violations shall be expanded. • Bonuses and pay raises – when the Company becomes profitable, a general pay raise shall be granted equal to 3% of their pension salaries. In the event of profits greater than $10 million, employee shall receive a one-time bonus equal to between 18% and 24% of their base pay. In addition, in the following year, if the Company earns over $10 million, an addition raise equal to 1% of pension salaries shall be granted. If the Company earns over $35 million, an additional 0.5% shall be added to salaries. In the following year, if the Company earns over $10 million, an additional 1% shall be added to pension salaries. If the Company earns over $35 million an additional 0.5% shall be added. • Horizon promotion bonus – when the Company becomes profitable, an annual budget for the
44
See Note 23.b.(2) to the Financial Statements.
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financing of a horizon promotion bonus for non-promoted ground personnel as well as for flight crews and flight attendants with similar status. Non-promoted employees are workers who have spent many years at the top step of the existing standard pay scale and are not designated for promotion. • Work cessation – initiated retirement and/or work cessation of 30 employees via a process including work cessation pathways using an increased compensation format, early pension or a choice between the above (in accordance with the retiring worker's age). • Shifts and rest periods – shifts in Israel station and maintenance shall be adjusted and reinforced according to activity loads. Rest periods for pilots and regular and temporary flight attendants in North America shall be shortened. • Special tracks and promotion – temporary employees with more than 3 years seniority may participate in bids for entry-level managerial positions. The Company shall be permitted to employ up to 40 employees via personal contracts. Employees in the flight technical field shall receive tenure after their fourth year instead of their second. On July 29 2009, the Company's offices received notice from the New Histadrut – the Professional Union Department ("the Histadrut"), on the basis of the Work Dispute Resolution Law, 1957, according to which the Histadrut has the right to declare a strike. On August 4 2009 the representatives of the Company, the Histadrut and the Company's workers announced that they would be freezing the work dispute, as declared by the Histadrut, this concurrent with the Company's agreement to freeze various moves related to work relationships it took recently. In addition, it was agreed that intensive negotiations would be held between Company Management, the workers' representatives and the Histadrut administration to create a shared streamlining plan benefiting both the Company and its employees. B.
Special Collective Agreement for the Employment of Temporary Personnel (“the Temp Agreement”) The terms of employment of the temporary employees have been arranged in a special collective agreement that, on May 20, 2004 was extended to December 31, 2008. The agreement stipulates the maximum length of employment of temporary employees, in accordance with the type of work and the department in which the worker is employed. The agreement regulates all of the terms of employment of temporary employees, including wages, bonuses, provisions for comprehensive pensions, insurance, sick leave, rights to airline tickets, etc. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012.
C.
Special Collective Agreement for the Next “Permanent” Generation The agreement was signed on May 20, 2004 with regard to the administrative, commercial and operational professions, including supervisory and management, flight attendant and academic positions in administrative professions. This agreement regulates the terms of employment of the personnel, which are different than those applying to the generation A employees, with a saving in future costs and achievement of managerial flexibility, including the dismissal of employees due to lack of professional or operational suitability. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012.
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D.
Special Collective Agreement (Ground Crew- “Intermediate Permanent Generation”). The agreement was signed on May 20, 2004. It pertains to employees who began working prior to January 1, 1999 and is intended to apply different terms to them than those stipulated in the agreement for generation A and than those stipulated for the Next Generation. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012.
E.
Special Collective Agreement (Air Steward Crew Personnel -“Intermediate Permanent Generation”) The agreement was signed May 20, 2004. It relates to flight attendants who began employment prior to September 1, 1996 and flight attendants who commenced employment between January 1, 1996 and December 31, 1997, and is intended to apply different terms to them than those stipulated in the agreement for Generation A and for those stipulated for the Next Generation. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012.
F.
Special Collective Agreement (Securities) The agreement was signed on May 20, 2004. It obligates the Company to act to create balance among all personnel whose employment is organized by special collective agreements (Generation A, Interim Generation, Next Generation), in order to avoid the preference of one field over another and also regards granting future wage increments to different fields. The agreement stipulates, inter alia, that the number of permanent employees in certain professions may not be less on various dates than those stipulated in the agreement. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012.
G.
Special Collective Agreements for Ground Crews and Air Steward Crews (Shortening Stay Over) In July 2006 and in July 2007, a number of special collective agreements were signed between the Company and the New General Workers Histadrut - the Division for Professional Unions and the employees' representatives, relating to ground crews and flight attendant crews for improving the Company's operational flexibility by removing existing restrictions on flying direct flights without any intermediate stopover and shortening the stay of the crews in North America. The agreement was extended as part of the Special Collective Agreement on November 2 2008 to December 31 2012. 9.4.8
Pension Arrangements Pension agreement Beginning September 1992, the social rights of part of the Company’s employees have been regulated within the context of a pension agreement. Pursuant to this agreement, an employee joining the comprehensive pension must insure a portion of his salary in the pension plan and the balance can be directed to executive insurance or to the provident fund of the Company's employees. After the agreement was signed, new employees must be insured by the comprehensive pension. The agreement stipulates that the Company's payments to the pension fund and an
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approved fund (executive insurance or provident fund) for an employee joining the pension plan, will come in lieu of its severance pay obligation to that employee, pursuant to Section 14 of the Severance Pay Law, 1963, for that part of the salary and for that period as to which the payments were made. Up to the date of joining, the employee is entitled to severance pay based on his last salary. During 2005, amendments were made to the Income Tax Regulations (Rules for Approving and Managing Provident Funds), which change the rules for deposits and withdrawals of monies in pension insurance plans, inter alia, with regard to the reduction of the maximum amount which may be insured in capital insurance. In June 2005, the Company, the Histadrut-the Federation of Trade Unions and the Employees' Association of El Al Employees signed a special collective agreement that enables the adjustment of the provisions to the new rules, as selected by the employees. Executive Insurance Agreement The agreement between the Company and the Phoenix Israeli Insurance Company Ltd., which became effective December 1, 1990, was extended until the end of the effective period of the executive insurance policies that were issued under its auspices to employees. According to the stipulations of the pension agreement, redirecting part of the pension salary to executive insurance is conditional upon joining comprehensive pension. Executive insurance may be considered solely a savings plan or a savings plan with specified insurance (insurance against work disability and/or life insurance). The provisions for insurance are at the rate of 18 1/3% of the insured salary, of which 8 1/3% is for severance pay and 5% for provident fund on the employer’s account and 5% for provident fund on the employee’s account. The Severance Pay Deficit and the Manner in which it was Covered Until the pension agreement was signed, Company personnel employed in Israel who were covered by the collective agreement had no pension insurance. According to the provisions of the collective agreement, since January 1983, the Company makes deposits (for employees who did not join the pension) of 8 1/3% of the current wages of the employees in a provident fund for severance pay in Israeli banks. The deposits are in the Company’s name. Since the Company did not deposit monies for severance pay in a severance pay provident fund until January 1983, and since January 1983, severance pay was paid to retired employees from the money accrued in the provident funds for severance pay, a substantial shortfall was created in the provident fund for severance pay, as listed in the table below. (See Note 23.b.(3) to the Financial Statements on this matter). In addition, the Company’s books include an actuary liability in accordance with International Accounting Standard 19 for a grant for unutilized sick days. The grant is paid according to the provisions of the collective agreement at the time of retirement from the Company due to disability or age, or subsequent to a period of service, on the condition that the employee is entitled to severance pay. The liability is in accordance with the eligibility accumulated by the employees, as listed in the following table, and subject to the maximum ceiling for redemption of sick leave, as detailed in Note 23.b.(4) to the Financial Statements. In addition, an actuary liability for accumulated vacation days is listed in the Company's books.
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The following details the Group’s liabilities in connection with employee benefits, net (consolidated data in thousands of dollars): December 31
December 31
December 31
2009
2008
2007
14,580
10,100
13,823
1,078
934
1,329
14,350
29,387
40,029
Less- current maturities
(1,007)
(3,249)
(1,821)
Short term benefits due to vacation and
50,914
48,282
45,574
79,915
85,454
98,934
Net benefits after the termination of employment for retirement compensation, pension funds, sick days and retirement benefits Long term benefits due to vacations and seniority bonuses Net benefits due to consensual retirement plans
other Total
*
The information featured in the above table does not include salaries and associated (current). For further details on employee benefit liabilities see Note 23 to the December 31 2009 Financial Statements.
In June 2003, an agreement was signed between the State, the Company and the employees’ association, according to which the State and the Company agreed to act to cover the deficit between the provisions for severance pay recorded in the Company’s accounts (“Provision”) and the monies actually deposited into the severance pay provident fund (“Fund”) and which is connected to the eligibility of employees who had been employed by the Company at the date that the Company entered receivership in 1982 and who continued to be employed in June 2003 ("the Eligible Employees"). On the date of the agreement, the deficit amounted to at NIS 516,240,000 and it is index linked and bears annual interest of 5.05%, starting June 1, 2003. Under this agreement, the State and the Company transferred the immediate proceeds which they received from the sale of securities in the pursuant to the 2003 Prospectus (“the initial offering”), less expenses, to the severance pay fund for the eligible employees (the balance of the severance pay funds includes the above proceeds). The State and the Company also undertook to transfer to the severance pay fund of the eligible employees, any amount that was raised from the conversion of convertible securities that were issued in the initial offering or from the sale of securities in other offerings which would be executed through the date of the end of the last exercise date (June 5, 2007). From January 1 2007 through December 31, 2007, deposits were made to the severance pay funds of eligible employees: State deposits totaling NIS 104,624,444, Company deposits of NIS 100,862,605 and in total deposits were made to the severance pay fund of eligible employees of NIS 205,487,049. After making the above State and Company
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deposits, the deficit in the fund for eligible employees, as defined in the agreement between the Company, the State and employees' representatives signed on the eve of the Company's privatization, was covered. After making the above deposits and fully covering the deficit in the severance pay fund, as required by the agreement, the Company deposited NIS 30.0 million (including interest accrued as of the reporting date), representing the balance of the offering proceeds, in a separate account (included in short-term deposits as of December 31, 2009 – see Note 6 to the Financial Statements). As part of the restatement of the Financial Statements on December 31 2007, the capital reserve from transactions with a former controlling party was reduced in return for a liability registered to the State of Israel. The Company is assessing whether there are limitations on its ability to use the said balance, pursuant to the aforementioned agreement between it and the State and the employees' representatives, and in this context, it has requested a response from the State. As of this report, the State has yet to provide a response on the matter. 9.4.9
Legislative Amendments Pertaining to Retirement Age and Retirement Arrangements On July 14 2009 the Knesset passed the Economic Streamlining Law (Legislative Changes for Implementing the 2009 and 2010 Economic Plan), 2009. The purpose of the Law is to allow the Israeli economy to cope with the impact of the global economic crisis and minimize its damage, prepare infrastructure, which at the end of the crisis will lead to a stronger economy, reducing social-economic gaps and reducing the government deficit while streamlining government activity. The Streamlining Law stipulated a number of changes in the area of work relations, including (a) a Revision of the Sick Pay Law, 1976, which stipulates that an employer may not dismiss an employee after the employee has been absent from work as a result of sickness during the period in which the employee is entitled to sick pay (up to the maximum amount of time set in law), with the exception of certain specific cases; (b) a Revision to the Sick Pay Law (Absence due to Spousal Illness), 1998, which stipulates that a worker employed by the same employer or at the same work place for a period of at least one year the spouse of whom has a malignant disease, shall be entitled to take up to 60 days absence per year on account of their accrued sick days or vacation days, as they choose. This, unlike the current legal situation, in which a worker is entitled to only 6 days of absence a year due to their spouse's illness; (c) a Revision to the Sick Pay Law (Absence due to a Child's Illness); 1993, which stipulates that an employee whose child is sick with a malignant illness and who has been employed at the same work place or by the same employer for at least one year shall be entitled to 90 days absence per year (in stead of 30 as provided today), on account of their accrued sick days or vacation days, as they choose; (d) a Revision to the Employment Contractor Employment Law, 1996, which stipulates that the licensing requirement currently borne by employment contractors shall also apply, with requisite changes, to service contractors in the guarding, security and cleaning industry. It also stipulated that service contractors operating without a license shall face up to six months in prison. Pilots who have Reached the Age of 65 Under regulatory restrictions, an employee may not serve as a pilot on a commercial flight after he has reached the age of 65. Due to the problematic nature of raising the retirement age to 67 for this group, and after the Company petitioned on this matter, in February 2009 the Civil Aviation Authority granted its approval to hire pilots aged 65 to 67 in First
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Officer capacity to several destinations to which such flights were approved. For details regarding legal proceedings filed against the Company in the matter of employing pilots over the age of 65, see 9.14.2 and 9.14.7 below. Updated Legislation Pertaining to Salary Protection Law On August 3 2009 the Salary Protection Law (Financial Sanction), 2009 was passed, pursuant to which the Salary Protection Law, 1958 was amended (Amendment 25). According to the amendment, criminal sanctions were to be placed on employers failing to pay their employees' salaries in the event that the employer has faile4d to prove that the failure to pay the salary derived from causes outside his control (six months in prison or a fine). An employer shall not be prosecuted unless 90 days have passed from the day after which the salary was withheld and the salary had not been paid to that date. At the same time, an alternative new sanction was added for employers withholding their employees' sanctions and that being – financial sanctions. The sanctions may be issued by a senior work supervisor (the supervisor) against an employer who performed a violation of failure to pay salary on the proper date as described above. Currently, this sanction amounts to 35,000 NIS. The law stipulates a mechanism for announcing the intention to charge the sanction or administrative warnings to the employer and the employer has a right to speak in his defense prior to the decision regarding the sanction. The supervisor may also issue sanctions against a party ordering a service for a failure to pay salaries on behalf of a contractor employing workers as part of the service given to the party commissioning the service (at this stage this applies to guarding and security, cleaning and catering services, but the law permits additional services to be added in the future). In addition, the law establishes a mechanism for petitions and appeals regarding the Supervisor's decisions. Note that the law precludes the possibility of concurrent processes, meaning that if criminal proceedings are being conducted against the employer, financial sanctions may not be added to them as well. This amendment shall come intro effect on July 1 2010 or on an earlier date, as decided by the Minister of Industry and Trade. Amendment 24 to the Salary Protection Law was passed in June 2008. This amendment established material changes. Among other things, it established that the transfer of the burden of proof to employers in salary payment claims, including overtime pay and weekly rest pay, will occur if the employer fails to present attendance listing from the work hour log (said burden of proof shall only apply to employers for amounts of no greater than 15 weekly overtime hours or 60 monthly overtime hours). The amendment expanded the details the employer is required to include in pay slips and on the payroll and expanded employer liability, including criminal liability, for all things pertaining to the pay slip and the personal liability of corporate executives and compensation, for instance, which are not dependent upon proving damage for failure to deliver pay slips or failing to include information in the slips. Amendment to the Severance Pay Law, 1963 On December 28 2009 the Knesset passed Amendment 25 to the Severance Pay Law, 1963 (hereinafter: "Amendment 25"). This amendment extends the period in which work continuance is preserved, even if employer-employee relations have been placed on hold and according to which employment shall be considered continuous, for the purpose of establishing severance pay, even if a temporary break occurred in the employment without a disconnection of employer and employee relations, or a break involving a disconnection, for a period of no greater than six months (vs. three months prior to the
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Amendment). To be clear, as part of old legislative changes applicable to the state as a whole (and not just the Group), it was established, among other things, that the age at which an employee must retire from work for age reasons is 67. A male employee is entitled to a pension at the age of 67 while a female employee is entitled to retire at the age of 62 and receive a pension (subject to conditions denoted in law). It was also stated that a male and female employee retiring after the age of 60 but before the age of 67 for a male and 62 for a female employee, shall be entitled to a reduced pension. In addition, in January 2008, a general collective agreement and an expansion order came into effect, which regulate the insurance obligation in comprehensive insurance for the entire economy. The Company has a group of veteran employees who in the past elected the severance pay track, and do not have pension insurance. The expansion order stipulates the obligation to insure every employee who has no benefiting pension arrangement, as defined in the order, and therefore applies to the aforementioned employees. 9.4.10 Eligibility for Flight Tickets According to IATA regulations, Company employees are entitled to service-vacation flight tickets (free or at a discount), the great majority of which are on an available seat basis for themselves and for their families, including retired employees. This right is anchored in the labor agreements (and in the personal employment agreements of the senior executives), in the personal retirement agreements, in the Company procedures and in the professional instructions of the human resources division. The quota of free or discounted flight tickets is limited by the provisions of the labor agreement, of personal agreements or retirement agreements and by Company procedures. The Company included a provision in its December 31 2009 Financial Statements for the anticipated cost to the Company from the utilization of flight tickets by employees after retiring from the Company. See Section 9.9.6 below and Note 27.e to the Financial Statements regarding the income tax assessment for employee flight tickets. 9.4.11 Employees Voluntary Early Retirement Plans Within the framework of its efficiency and cost-cutting measures, the Company has created voluntary early retirement plans. During 2009, 2008, 2007, 2006 and 2005, 8 employees, 31 employees, 52 employees, 95 employees and 53 employees, respectively, retired in the context of the retirement plans. During the period between 2005 and the date of the report, 239 employees have retired in the context of early retirement plans. See Note 23.d to the Financial Statements for additional details. In order to carry out the retirement plans, agreements were reached between the employees and the Company, between the employees and financial institutions, and between the Company and financial institutions. In the framework of these agreements, the financial institutions serve as the payer, making the pension payments to the retirees. As security for the Company’s obligations to the retirees, the State provided guarantees, according to which, inter alia, the Company will make periodic deposits (mostly, for one year in advance) to the financial institutions or will pledge a deposit in a commercial bank in an identical amount to the total amounts which the Company must pay as pension to the retirees for the coming year, and the Company’s payments to the retirees will be made
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from these monies. From time to time, the financial institutions estimate the anticipated costs of the retirement plan, and the Company updates its estimates to the extent necessary, according to actual costs and the experience gained on the subject. As of December 31, 2009, to secure the voluntary retirement plan for employees, the Company furnished guarantees to third parties totaling $4,653 thousand. See Note 26.c to the Financial Statements for further details. 9.4.12 Local Employees at Company Branches Abroad Most of the Company personnel overseas, other than Israeli employees posted overseas, are employed according to collective labor agreements between the Company and the local union in that country, or according to agreements with the employees’ association, or according to agreements between the employers' organization (foreign airlines) and the umbrella organization of airline employees, or according to other agreements. The terms of employment of Company employees in the remaining countries are not covered by any collective agreement, but are established by the Company, in accordance with accepted practice in the aviation industry or in the national airlines in those countries. In some branches, the employees are engaged through personal contracts or through a contractor. Some of the branches are committed to pay severance pay in accordance with law or contract; some of the branches have a pension insurance obligation or a right to pension by agreement. The Company makes regular payments for pension insurance and includes a full provision in its accounts for the liability for severance pay. On February 23, 2007, an understanding was reached with the professional union in the United States for renewal of the collective labor agreement for Company employees in the U.S., this through December 31, 2008, and on March 19, 2007, the consent of the U.S. employees' representation to this agreement was obtained. 9.4.13 Israeli Employees Posted Abroad The Company employs abroad, among others, permanent workers, consisting of Israeli residents dispatched to fill managerial positions abroad (“posted’). As of December 31 2009, 23 employees out of all of the Company's overseas employees (336) were Israelis posted abroad. Similar to State emissaries abroad, the salaries of those posted during their service abroad (hereinafter “Salary Abroad”) are also different from Israeli salaries, considering the standard of living and taxation abroad, and also the fact that the salary is subject to income tax and social taxation, both abroad and in Israel. The salary abroad, including participation in car maintenance, is paid to the posted employee based on “net salary” (taxes, including social taxation and the grossing-up abroad, are paid by the Company). If the salary abroad or special payments in excess of the tax-exempt ceiling are subject to tax in Israel, the Company assumes the Israeli tax. In addition to the salary abroad, the Company also bears the rental costs of those posted as well as tuition expenses for their children. These payments (up to a certain ceiling) are tax-exempt in Israel, but are liable for tax according to the laws of the different countries. The Israeli salary of the posted employee (salary according to rank and position, had they been employed in Israel) serves as the determining salary by the Company for the purpose of making provisions for severance pay, for compensation (or pensions and or executive insurance) and to an
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advanced education fund, as is stipulated in the posting letter. 9.4.14 Welfare Services and Payments In addition to salary, part of the Company’s permanent employees also receive welfare services and payments, which include: subsidized meals for employees and gross-up of related taxes, medical examinations of employees, participation in medical and health care insurance and dental insurance for employees, clothing, uniforms, and partial participation in higher education. Some of these benefits are also given temporary employees. Employees may, under certain conditions, receive guarantees for loans for various purposes. The loans are for periods of up to 60 months and are provided by the Company and Bank Yahav on terms that have been approved by the Ministry of Finance. See Note 13 to the Financial Statements for details. 9.4.15 Restriction on Leasing Aircraft via "Wet Lease" According to a letter dated December 1999 from the Company’s CEO to the Chairman of the Division for Professional Unions of the Histadrut, the Company is to restrict itself in the future to leasing up to 4 aircraft from Israeli airlines, so that the flight hours that will be executed by the Israeli airlines for the Company will not exceed 10% of the Company's total flight hours (including flight hours that will be carried out in wet leases by the Israeli airlines, but not including leased aircraft from foreign companies), and they will operate in specified aircraft models in routes from/to Israel to destinations to which the flight range to them from Israel does not exceed 2,400 nautical miles. The Company will continue to plan the employment of its air crews at a volume of 83 monthly flight hours on an annual average, as it has done until now, and, in the event of a significant change in external circumstances that will create the necessity to change this policy, the CEO will discuss the matter with the Chairman of the Division for Professional Unions of the Histadrut, before deciding on the matter. 9.4.16 Executives and Senior Management The members of the Company’s Board of Directors are not Company employees. The Chairman of the Board of Directors On January 21 2009 the Company's Board of Directors decided to appoint Mr. Amikam Cohen as Chairman of the Company's Board of Directors, starting February 21 2009. On April 30 2009 the Audit Committee and the Company's Board of Directors decided to approve the Company's entry into a service agreement with the Chairman of the Board – Mr. Amikam Cohen (hereinafter – "the Chairman of the Board" and "the Service Agreement"). On June 24 2009 the General Meeting of the Company's shareholders ratified the Service Agreement. According to the Service Agreement, the Chairman of the Board shall provide the Company with active Chairman services as expected in publicly-owned companies in the field of activity of the Company and of its subsidiaries, as they exists on the date the service agreement was made and as may be from time to time (hereinafter – "the Services").
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In return for the services, the Chairman shall be entitled to the following: (a) a monthly salary of NIS 90,000 plus VAT linked to the CPI (hereinafter – "the Remuneration"); (b) 4,650,000 non-tradable options exercisable as 4,650,000 regular NIS 1 par value shares; (c) benefits pertaining to the receipt of flight tickets; (d) reasonable expense refunds for travel, hosting and mobile telephone expenses made by the Chairman in the context of the services subject to the law and in accordance with Company procedure. The remuneration and the remaining benefits and payments detailed above constitute full remuneration to the Chairman for the provision of services, including for his services as Company director, and with the exception of these he shall be entitled to no additional benefit and/or wage and/or remuneration from the Company of any form, including directors' salary (participation remuneration and yearly remuneration) for the services of the Chairman of the Board as a Company director. In the event that the Chairman of the Board ceases serving as Chairman and continues serving as Director at the Company, he shall be entitled only to a Director's salary ((participation remuneration and yearly remuneration) in accordance with the remuneration paid Company Directors at the time as well as flight ticket rights awarded Company Directors. The options denoted above, exercisable as 4,650,000 regular NIS 1 par value Company shares constituted as of the signing of the Agreement 0.95% of the Company's paid-up capital. The options were granted as part of the Company's 2006 option plan and were issued to the Trustee for the Chairman in accordance with Section 102 of the Income Tax Ordinances (New Version), 1961, in the capital gains track and may be exercised as Company shares, subject to adjustments and as detailed below: The exercise price of each option shall be NIS 0.885, the closing price of a Company share on February 1 2009, which is when the Chairman of the Board began his tenure. The right to exercise the option shall vest in three portions ( a third each year) which shall vest throughout the Chairman of the Board's service at the Company In the event of the discontinuation of the Chairman's service past the end of the first year from the issue date, the options shall vest on a quarterly basis. The number of options and/or the vesting price, as the case may be, shall be subject to adjustments as detailed in the agreement with the Chairman, including adjustments due to dividends, due to mergers/acquisitions or acceleration due to changes in control. In accordance with the value assessment provided by an independent outside value assessor, and in accordance with the calculation made by the value assessor in accordance with the Black & Scholes model (as well as reference to Binomial options pricing model for comparison), the value of the options, based on the following parameters, for the date on which the option plan was approved by the Company's General Meeting on June 24 2009 was NIS 1,310 thousand (some $332,000 on that date). The parameters used by the assessor to determine the value assessment were, among other things, the value of the Company's stock on June 24 2009 (0.879 NIS), the exercise price set at 0.885 NIS, the options' average lifespan, the fact that the options are granted in three portions and the fluctuations of the Company's shares throughout the vesting period. The parties' entry into the Service Agreement was retroactive starting February 1 2009 until the date Mr. Amikam Cohen stops serving as Chairman of the Company's Board of Directors for any reason. In spite of the above, the Service Agreement can be revoked by either of the parties for any reason with advance written notice of 90 (ninety) days. Note that in accordance with the Company's decision dated October 2 2008, it was decided to appoint Mr. Amnon Lipkin-Shahak, a member of the Company's Board of
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Directors, temporary Chairman in effect starting December 1 2008. Mr. Lipkin-Shahak served as Chairman of the Board until January 31 2009. On December 30 2008 the Company's General Meeting (following the November 25 2008 approval of the Company's Audit Committee and Board of Directors) approved a monthly salary payment to Mr. Lipkin-Shahak, as a result of his tenure as Temporary Chairman of the Company's Board starting December 1 2008, to the amount of 60,000 per month (gross), this in lieu of the "participation remuneration" and the "yearly remuneration" to which he is entitled as well the right to an upgrade to the highest business class existing on a flight, on the basis of available seats at the airport, for his flights, this in addition to flight privileges granted as Company Director. These rights were granted for the duration of his tenure as Chairman of the Board. Directors On June 24 2009 the special General Meeting of the Company's shareholders ratified the appointment of Mr. Pinchas Ginsburg as Director on the Company's Board of Directors; In addition, the General Meeting ratified the amendment of the Company's Articles of Association so that the maximum number of directors after the amendment was fifteen directors instead of twelve. On December 31 2009 the annual General Meeting ratified the extension to the tenure of the Company's serving directions, with the exception of public directors. Ms. Yodfat Harel-Gross, who was appointed by the General Meeting on March 4 2009, concluded her service as Director on December 31 2009. On February 17 2010 the Company's General Meeting approved the extension of the tenure of Mr. Yair Rabinowitch as public director with accounting and financial capabilities for an additional 3 year term, starting March 1 2010. The Company CEO On September 6 2009, the Company announced that it and its CEO, Mr. Chaim Romano, had reached an agreement according to which Romano's tenure shall end based on 18 months advance notice delivered by the Company in accordance with the personal employment agreement between the Company and the CEO .The notice period, under these circumstances, is 18 months, during which employer-employee relations between the parties will remain in effect (without detracting from the Company's right, based on the employment agreement, to shorten this period at any time, while repaying its balance). The Company's Audit Committee and Board of Directors decided that the non-compete period, which according to the terms of the agreement is 6 months from the completion of work, shall be extended by an additional 12 months, in return for a one-time payment of 750,000 NIS. In accordance with the terms of the agreement, the CEO is entitled to a retirement bonus equal to one months pay for each year of work at the Company (approximately five years), in addition to releasing retirement and executive insurance sums at his disposal, as well as the payment of a result-dependent bonus, as established in the employment contract, for the 6 month period from the notice period. In addition, the Audit Committee and the Board of Directors decided that the CEO shall be entitled to flight ticket rights, as is general Company practice for a departing executive of the CEO's rank and seniority. As of the date of this report, additional costs resulting from the conclusion of the employment of the CEO (in addition to the one-time payment for the non-compete grant, as described
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above), amounted to 3.4 million NIS ($0.9 million). For details see Note 30.i to the December 31 2009 Financial Statements. On February 1 2010 the Chairman of the Company's Board of Directors was contacted by a shareholder claiming to hold 40,000 Company shares (constituting 0.01% of the Company's issued share capital). The letter demanded that the Company file a suit against Board members serving on the Board of Directors on the date of the approval of the agreement with the Company's former CEO, Mr. Chaim Romano. The shareholder claims that the Board members allegedly violated their prudence duties toward the Company thus causing it millions of NIS in damages, this sum being, according to the shareholder, the surplus sum paid Mr. Chaim Romano (the difference between the bonus he actually received and the bonus he was supposed to receive – a sum deriving from the Company's pre-tax credit for each year in which he was employed at the Company). On March 24 2010 the Board of Directors discussed this letter and decided to reject its demands, as it saw no point, grounds or justification in filing the suit and it believed that filing such a suit would not be in the Company's best interests. On October 21 2009, the Company's Board of Directors decided to appoint Mr. Elyezer Shkedi as the Company's new CEO. Mr. Shkedi began his tenure on January 1 2010, after a two-month preparation and overlap period with the Company's departing CEO, Mr. Chaim Romano, who concluded his tenure as acting CEO on December 31 2009. On January 6 2010 the Company's Audit Committee and Board of Directors ratified the terms of employment of Mr. Elyezer Shkedi as Company CEO (hereinafter: "the CEO") , the key points of which are as follows: Mr. Elyezer Shkedi shall serve as Company CEO starting January 1 2010 and shall report to the Company’s Board of Directors. The CEO's gross monthly salary shall be 115,000 NIS, linked to the Consumer Price Index on the basis of the known index, with the basis index being the CPI published December 15 2009. In addition, the CEO shall be entitled to a bonus comprised of the following three components: (a) "Profit bonus" - a sum equal 2.0% of the Company's yearly pre-tax profit appearing in the Company's consolidated and audited yearly Financial Statements "(the Yearly Statements") this for each calendar year during the CEO's tenure as Company CEO ("the Tenure"), starting 2010, when such a profit was achieved and for any portion of such a calendar year; as well as: (b) "One-time bonus" – a one-time bonus to the amount of two million NIS for the first calendar year over the course of the tenure in which the Company achieved a pre-tax yearly profit, this in accordance with the yearly statements for the year in question ("the base year") and an additional (and final) one-time sum of one million NIS for an additional calendar year over the course of the tenure, in which the Company achieved a pre-tax yearly profit, this in accordance with the yearly statements for the year in question; as well as: (c) "A result improvement bonus" – a sum of up to 2.0% of the aggregate improvement to the Company's yearly pre-tax profit, starting from the base year until the end of the tenure, according to the yearly statements. This bonus shall be paid the CEO for the base year and for each subsequent calendar year in which an improvement occurred (if any) in the yearly profit in question compared to the previous peak year in the tenure, with "previous peak year" in this regard being a previous calendar year,
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starting from the base year, in which the Company's highest pre-tax profit was achieved to date for which the bonus in question is paid. Eligibility for this bonus shall apply only if (a) a pre-tax yearly profit was achieved for the calendar years during the tenure in accordance with the relevant yearly reports; as well as – (b) under the condition that the profit in question is larger than the pre-tax profit achieved un the previous peak year, and – (c) due to the difference (delta) only between the two profit sums in question (with the exception of for the base year in which the bonus in question is calculated for the entire pre-tax yearly profit for that year). In addition, the Company granted the CEO 9,914,382 options exercisable as 9,914,382 regular 1.00 NIS par value Company shares, which constituted, as of the signing of the agreement, 2% of the Company's issued and paid-off stock capital, 1.90% fully diluted. The options were granted on February 7 2010 in accordance with the Company's 2006 option plan and with the option agreement with the CEO, and in the event of any contradiction between the plan and the agreement, and agreement shall take precedence. The options were placed in trust for the CEO in accordance with Section 102 of the Income Tax Ordinance (new version), 102, on a capital gains track and are exercisable as Company share, subject to adjustments and as detailed below: Vesting – The right to exercise the option shall vest in three equal yearly portions (one third each year) throughout the CEO's first three years. In the event of the discontinuation of the CEO's employment after the end of the first work year the options shall vest on a quarterly basis. In the event of the discontinuation of the CEO's employment within six months after a change of control event (as defined in the option agreement), all options allocated to the CEO the vesting date of which has yet to be reached shall vest immediately, and they shall be exercisable within 12 months from the date on which the CEO stopped working in practice. Exercise Price – The exercise price of each option shall be NIS 0.965, the closing price of a Company share on November 1 2009, which is when the CEO began his tenure. Exercise Period – Any portion of options vested may be exercised up to six months from the vesting date of that portion, or at the end of twelve months from the actual end of the CEO's employment. Adjustments – the amount of options and/or the exercise price, as the case may be, shall be subject to adjustments as detailed in the agreement with the CEO, including adjustments due to dividends and due to merger/sales agreements. The economic value of the options – in accordance with the value assessment provided by an independent outside value assessor, and in accordance with the calculation made by the value assessor in accordance with the Black & Scholes model (as well as reference to Binomial options pricing model for comparison), the value of the options as of January 6 2010 is 3,847 thousand NIS. The parameters used by the assessor to determine the value assessment were, among other things, the value of the Company's stock on January 6 2010 (0.879 NIS), the exercise price set at 0965 NIS, the options' average lifespan, the fact that the options are granted in three portions and the fluctuations of the Company's shares throughout the vesting period. The CEO shall be entitled to social benefits such as executive insurance provisions or pension funds, loss of work ability and education fund, as are commonly granted Company senior executives. In addition, the CEO shall be entitled to 30 paid sick days per year (which may be accumulated to up to 120 days, but not redeemed), 16 recovery days per year, as well as 25 vacation days per year (which may be accumulated, unlimited in
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amount and redeemable). In addition, the CEO shall be entitled to reasonable personal and hospitality expenses, spent as part of his duties and in return for appropriate receipts/ invoices. Upon the discontinuation of the CEO's employment, for any reason, with the exception of criminal circumstances, the CEO shall be entitled to, in addition to the payments specified above, a retirement bonus to the amount of a single monthly salary multiplied by the amount of years he worked at the company (not including the advance notice period), including for a portion of a work year, this according to the CEO's last pay slip. This agreement includes confidentiality and non-compete clauses, according to generally accepted practice, for a 12 month period from the actual discontinuation of work. The Company shall provide the CEO with a mobile phone, a telephone line and home fax machine and shall bear full maintenance and usage costs as well as payments for calls. The Company shall provide the CEO and his household with a Licensing Group 6 vehicle. The Company shall bear all costs involved in the use and maintenance of the vehicle, according to Company practice and its procedures as updated from time to time. The Company shall pay the tax payments borne by the CEO for the vehicle and telephone at his disposal. The CEO shall be entitled to flight tickets for himself and for his family according to Company practice regarding any person serving as CEO, this according to existing Company procedures, updated from time to time. As part of the negotiations with the CEO regarding the terms of his employment at the Company and at the CEO's request, the Board of Directors approved the establishment of a CEO fund for the remuneration of excelling employees, to the amount of 2 million NIS. This fund shall be established after the Company's financial results show an improvement of over 50% over 2009. Use of this fund shall be at the discretion of the CEO to provide incentives to excelling Company employees who are not Management members. Senior Executives On June 1 2009 Mr. Gil Ber began serving as Company Internal Auditor. Over the course of the second quarter of 2009 the administrative staff of the Company's cargo department was reduced as a result of the discontinuation of the employment of the VP of Cargo. Starting that date, the Company's cargo activities became subordinate to the Head of Cargo Branch. In addition to the CEO, other senior personnel are employed under personal employment agreements. The salary of the senior personnel under personal agreement is updated, so that the overall salary is linked to the CPI and updated each year, in the month of January, after deduction of the cost-of-living increments paid. In cases where the personal agreement is silent as to eligibility to augmented severance pay, the Company customarily approves incremental severance pay at the rate of one month per year of work. See also Section 9.4.5 above for a description of the options plan. At a Special Meeting of Company Shareholders on July 14, 2005, a resolution was approved for an addendum to Section 158a of the Company's Articles of Association. The addendum stipulated, inter alia, that the salaries of officers (with the exception of directors not employed by the Company, and excluding the CEO, a controlling shareholder, a relative of a controlling shareholder, and an interested party of a controlling shareholder), where an exceptional transaction is not involved, will be approved by the Human
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Resources Committee and Board of Directors appointments. The following displays the number of employees in the category of Group executives and senior management personnel during the years 2009 and 2008: Number of Employees45 December 31, 2009
December 31, 2008
CEO
1
1
Senior management
10
11
34
33
Expanded management and other senior personnel
46
9.5 Raw Materials and Suppliers 9.5.1
Fuel A. The principal raw material employed by the Company is jet fuel. Jet fuel is one of the Company's main expense components, as it is for every airline. In 2009, jet fuel expenses represented approximately 33% of the Group’s operating expenses (compared to 43% for 2008). B. The price of jet fuel has a material effect on the Company’s profitability. In the Company’s estimation, at the operating level as of the date of the report, every change of 1 cent in the price of a gallon of jet fuel over the year increases the Company's fuel expenses by $2.3 million. C. Starting 2001, the Group has taken actions to hedge part of the forecasted jet fuel consumption. A special committee of the Board of Directors for the management of market risks sets the Company’s policies on the hedging of jet fuel prices, the hedge period and the proportion of the hedge out of total jet fuel consumption for that period. The Company requests proposals for framework arrangements from several financial institutions and fuel companies with which the Company has contacts, carries out commercial negotiations with them and executes the hedge transactions with them. The accounting between the parties is done once each period, and if the average price for the above period in the market is higher than the hedged price, the Company receives a refund in the amount of the price difference multiplied by the quantity for that period; where the average monthly market price is lower than the hedged price, the Company pays the difference multiplied by the quantity for that period. In 2009 the Company paid $103 million for a hedging transaction conducted in the past as a result of the above hedging policy. See the Section b.1.(2) of the Directors’ Report and Note 31.c to the Financial Statements for details on the Company’s hedging policies. D. In 2009, the average market price of jet fuel dropped by approximately 44% in comparison with 2008, before hedging transactions. The effect of this price decrease on the Company's operating results is substantial. The hedging transactions undertaken by the Company have mitigated part of the effect of this price decrease.
45 46
Pursuant to the organizational structure (as opposed to salary levels). Not including the CEO and senior management.
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E. The Group purchases fuel in Israel and abroad. In 2009, the Company purchased fuel from two Israeli suppliers who were chosen in a tender process, with approximately 80% of its fuel purchases in Israel from one supplier (the Paz Company). F.
The Group purchases jet fuel abroad from a number of suppliers, including fuel companies that supply jet fuel to a large number of airports. The overseas contracts are usually for a one-year period. Most of the contracts are signed after commercial negotiations with several parties which the Company approaches in order to obtain bids each year, except for those stations where there is only a single supplier or stations at which the Company has found it to be feasible to contract with the supplier for a period exceeding one year. As of this report, the Group has agreements for the overseas purchase of jet fuel that will be in effect through May 31, 2011.
G. From time to time, the Company evaluates the feasibility of importing jet fuel on its own as opposed to that purchased from local suppliers, and carries out these activities based upon market conditions. H. The Company purchased approximately 40% of its total fuel purchases (in Israel and abroad) during 2009 from one supplier (Paz). The Company has seven additional fuel suppliers from which it purchased more than 5% of its total fuel purchases in that year. The Company does not consider itself dependent on any one fuel supplier. I.
In 2003 the Company initiated a policy of maintaining an inventory of jet fuel, which was purchased from local suppliers. As of December 31, 2009, the Company held fuel purchased from suppliers in Israel and abroad to the amount of $13.2 million.
J.
In addition to fuel suppliers, the Group receives fueling services in Israel from other suppliers.
9.5.2 Aircraft A. All of the aircraft operated by the Company were manufactured by the Boeing Corporation. The Company has a material dependence on Boeing both with respect to spare parts as well as with respect to engineering support. At the same time, in the estimation of the Company, the likelihood of termination of engineering support is low. B. See Note 16.e to the Financial Statements with regard to agreements to purchase aircraft.
9.6 Working Capital 9.6.1
Inventory The Company has an inventory of raw materials that include jet fuel for consumption, duty-free products to be sold in flight, and expendable inventory (chemicals, food, etc.) for the use of passengers during flight. The following is a calculation of average inventory days:
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2009 Fuel inventory Food and passenger supplies inventory
2008 6
3
43
44
Duty Free Inventory Purchasing Policy The Company purchases 80% of its duty-free products from the DFASS Company and the remainder of its duty-free products are Israeli products purchased directly from local suppliers (20%). Products are selected by a committee consisting of Company employees including representatives of the purchasing, marketing and customer units, in accordance with market survey considerations (consumer preferences, foreign companies, BGN duty free), potential product profitability, package size and more. Regarding DFASS products, after the selection of products by the Company, orders are made for a period of 2-3 months. Supply of products to the duty free warehouse is carried out in a single occasion. Alcoholic beverages and cigarettes are provided directly to the duty free warehouse, on a quarterly basis, with the remaining products provided to El Al stations, and the Company shipping them on the basis of available space in Israel. The Company is entitled to return any product (not food, tobacco or logo products) so long as the product is in its original packaging. The Company is responsible for sending the products including shipping and insurance costs to their point of supply (cigarettes and alcoholic beverages from the duty free warehouse, other products to the Company's overseas station). Product returns also include products classified as hazardous materials (such as perfumes). Regarding the purchase of Israeli products, after receiving the approval of the committee mentioned above for the product offered for sale on the plane, an agreement is signed with the product's supplier along with an initial offer (the minimum amount is 250 units). Supply of products to the Company is under export conditions and the warehouse in which the products are stored is a bonded warehouse. The Company reserves the right to discontinue sales of a certain product at its sole discretion. In such a case, the Company is entitled to return the entire remaining inventory (in whole or in part, as it chooses), but shall make a reasonable commercial effort to reduce the amount of products returned to the supplier. The supplier shall be responsible for any taxes that need to be pay customs agents to free the returned products from the bonded warehouse. The Company provides the supplier with "framework orders" for a 3-4 month period and the duty free warehouse withdraws the required amount from time to time. No amount may be withdrawn past the amounts open in the framework orders. Storing Products in the SLN Warehouse All purchased products are stored in the duty free warehouse (a separate unit within the SLN warehouse, with restricted access). Products requiring special storage conditions (such as chocolate), are stored in refrigerated conditions. The value of inventory in the
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warehouse at any given moment averages one million dollars. Orders are made on a periodic basis, including multi-seasonal products (sold throughout the year) in order to maintain a low inventory level. Inventory is kept by the Purchasing buyer, along with a representative of the Duty Free Unit and a representative of the duty free warehouse, to keep up to date on planned sales, expiring products in inventory and so on. For details regarding the extant of the inventory see Note 11 to the Financial Statements. 9.6.2
Reservation Cancellation Policies In general, Company policy is that a customer is permitted to cancel the reservation, without payment, until the date that the ticket is issued to the customer (“ticketing”). The customer may cancel certain tickets even after ticketing, at times without the payment of cancellation fees and at times with payment of a cancellation fee. Tickets also exist that the customer may not cancel at all after ticketing. Generally, the higher the ticket price, the greater the willingness to allow cancellation of the ticket without cancellation fee or with a low cancellation fee. The above is subject to the fact that legal requirements do not demand otherwise. In this regard note that regarding offsite sales or transactions conducted as a result of material misrepresentations or taking advantage of distress the Consumer Protection Law, 1981 stipulates special directives regarding the option of cancelling the transaction – see Section 9.11.2.(j) below.
9.6.3
Policies for Providing Assurance for Services The Group’s responsibility for damages (bodily damages and property damages) caused in the course of international air transport are stipulated in international conventions adopted in the Air Transport Law, 1980 and the decrees which have been issued under its auspices. The Ministry of Transportation distributed a legislative memorandum updating the current law, while conforming it to the Montreal Convention of 1999. The Group also operates in accordance with IATA directives on various matters connected to responsibility for passengers and their luggage. The Group’s responsibility for denial of boarding of passengers due to overbooking of flights is established by the Aviation Services Licensing Regulations, 1985. In addition, with regard to everything that is related to bumping passengers from flights, flight delays and flight cancellations to and from countries belonging to the European Union, Regulation 261/04 of the European Union applies to the Company (see Section 9.11.2.(e) below). A bill is currently before the Knesset Finance Committee on Compensation and Assistance to Passengers due to Delaying or Bumping Passengers from Flights, 2010, which is designed to adopt Regulation 261/04 of the European Union and to apply it to all flights (scheduled and chartered) from all destinations, including flights departing from Israel. For details regarding the bill and legislative amendments in the field of consumer protection see 9.11.2.(e) and (j) below.
9.6.4
Credit policies A. Credit to customers: Travel or cargo agents approved by IATA enjoy special payment arrangements in accordance with IATA regulations (a non-IATA agent is obliged to provide guarantees or pay in cash). The Group grants credit to agents in Israel for periods varying between 15 to 45 days. In general, direct sales of air
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transport to customers are made in cash, other than credit sales to Government ministries and certain commercial customers. B. Suppliers’ credit: The Group receives credit from its suppliers in Israel for periods between 30 to 90 days, in accordance with the type of supplier and the arrangement with him. C. The following are the average credit volume and credit periods for customers and suppliers of the Group in 2009 and 2008: 2009
2008
Average Credit in Millions of Dollars
Average Days of Credit
Average Credit in Millions of Dollars
Average Days of Credit
Customers
125
27
160
26
Suppliers
139
48
167
46
D. Note that the gap between the customer credit policy and its supplier credit policy derives, inter alia, from the fact that the supplier credit policy is set by the Company, taking into account market conditions, liquidity and generally accepted policy. On the other hand, the customer credit policy is largely set according to generally accepted practices in the aviation industry and in accordance with ordinances and procedures accepted by the IATA and travel and cargo agents. 9.6.5 Working Capital Deficit As of December 31, 2009, the Group had a working capital deficit of $3080 million, compared to $340 million at the end of the previous year. The current ratio at the end of 2009 is 45% compared to 52% at the end of the previous year. See Section 2.1 to the Directors' Report for detail of the factors leading to the increase in the working capital deficit. The overall working capital deficit results from the Group's current liabilities, which include two material components: deferred revenues from the sale of flight tickets and current installments of long-term loans. These elements, which are characterized by current business cycles, are included as mentioned in current liabilities and, in effect, explain most of the working capital deficit.
9.7 Investments See Note 15 to the Financial Statements for details of all of the investees of the Company. 9.7.1
A Concise Description of the Businesses of Principal Subsidiaries: A. Sun D’Or International Airlines Ltd. (“Sun D’Or”) The Group's charter operations, described above and below, are carried out through Sun D’Or (a fully owned El Al subsidiary). Sun D'Or leases the entire capacity of
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aircraft to third parties, or the capacity of part of an aircraft to a number of partners at prices agreed upon in advance. In addition, Sun D'Or also deals in the sale of tour packages by way of tourism wholesalers as well as online sales. Sun D'Or has a commercial operating and operational license for an indefinite period to transport passenger and cargo on charter flights to and from Israel. The commercial operating license provides, inter alia, that the flights will be carried out on aircraft leased by EL Al and that BGN will be Sun D’Or’s home base. Starting May 2008 Sun D'Or was appointed Designated Carrier scheduled flights. In May 2008 Sun D'Or was appointed Designated Carrier for the routes to Antalya, Zagreb and Bratislava, in February 2009 Sun D'Or was appointed Designated Carrier to Sochi and Rostov in Russia and in March 2009 Sun D'Or was appointed Designated Carrier to Frankfurt and Düsseldorf in Germany. Sun D’Or’s revenues during 2008 were $85,311 thousand, compared to $50,178 thousand in 2007 and $39,574 thousand in 2006. As of the date of the report, Sun D’Or had 28 employees. See Note 13.a.1 to the Financial Statements for further details on Sun D’Or. In April 2009 Sun D'Or began operating scheduled flights to Zagreb and Bratislava and starting September 2009 began operating regular flights to Frankfurt and Dusseldorf and on the Moscow-Eilat route. In 2009 Sun D'Or did not make use of its right to operate scheduled flights to Sochi and Rostov in southern Russia due to failure to secure the requisite approvals from Russian aviation authorities due to disagreements regarding Israeli security requirements. The aviation crisis with Russia came to a conclusion in December 2009, and as a result flights by Russian airlines from Rostov, Sochi and Krasnodar, the activity of which was frozen as a result of the security disputes between the countries. As of immediately prior to the approval of this report, Sun D'Or has not yet begun operating scheduled flights to these destinations. In addition, Sun D'Or did not operate flights to Antalya in Turkey, this as a result of the political situation and the sharp drop in passenger traffic to Turkey. In March 2010 Sun D'Or received authorization from the Ministry of Transportation to operate scheduled flights on the Tel Aviv-Minsk route and is expected to begin operating these flights starting June 2010. As noted, the Company ceased operating flights on this route in November 2008 and starting December 2008 flight on this route took place using a code sharing agreement with Belavia Airlines. The Company cancelled this agreement in October 2009, in light of the legislative change requiring the consent of the Restraint of Trade Commissioner for code sharing agreements (see 9.11.2 for further details). Recently, the Civil Aviation Authority has been examining Sun D'Or's compliance with Aviation Law requirements and resulting regulations. The CAA made several requirements, including a requirement according to which a number of employees shall serve exclusively as full time Sun D'Or employees and shall not be loaned from the Company. Sun D'Or has complied with the CAA requirements and starting February 1 2010 Sun D'Or's operational activities license has been updated accordingly. Sun D'Or's revenues were $75,785 thousand in 2009 compared to $85,311 thousand in 2008 and 50,178 thousand in 2007. As of December 31 2009, Sun D'Or employed 31 people. For further details see Note 15.a.(4) to the Financial Statement.
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B. Tamam Aircraft Food Industries (BGN) Ltd. ("Tamam") Tamam (a fully owned El Al subsidiary) is primarily engaged in the production and supply of prepared kosher airline meals. Tamam is located in Israel and its offices are located outside Ben Gurion Airport. El Al is the principal customer of Tamam. In 2009, approximately 92% of its sales were to El Al, with the remainder to other airlines and to other customers. Tamam’s revenues for 2009 totaled $22,014 thousand, compared to $21,589 thousand in 2008 and $20,068 thousand in 2007. As of December 31 2009, Tamam employed 314 workers (not including outsourced workers). For further information on Tamam see Note 15.a.(1) to the Financial Statements. C. Katit Ltd. ("Katit") Katit (a fully owned El Al subsidiary), deals mainly in the manufacture and supply of means to Company employees. Katit is based in Israel and its offices are at Ben Gurion Airport. In 2009 95% of its sales were to El Al. Katit's revenues in 2009 were 3,248 thousand, compared to $3,163 thousand in 2008 and 2,963 thousand in 2007. As of December 31 2009, Katit employed 101 people. For further details see Note 15.a.(5) to the Financial Statements. D. Bornstein Caterers Inc. (USA) (“Bornstein”) Bornstein (a fully-owned El Al subsidiary), incorporated in the United States and operating out of New York’s JFK airport, deals mostly in the production and delivery of prepared meals for airlines and other institutions. El Al is the Bornstein's primary customer (approximately 81% of its sales for 2009). Bornstein’s revenues in 2009 totaled $9,715 thousand, compared to $10,380 thousand in 2008 and $9,469 thousand in 2007. As of December 31 2009, Bornstein employed 78 workers. See Note 15.a.(2) to the Financial Statements for further details about Bornstein. E. Superstar Holidays Ltd. (Britain) - (“Superstar”) Superstar (a fully-owned El Al subsidiary), is a tourism wholesaler marketing tour packages to travel agents and individual travelers, and selling airline tickets on El Al routes at reduced prices. In recent years, Superstar has become one of the largest tour operators in Great Britain for tourism to Israel. The Company has operations in several other countries. Superstar’s revenues in 2009 were $16,499 thousand47, compared to $23,638 thousand in 2007 and $21,840 thousand in 2007. As of the date of the report, Superstar employs 19 workers. See Note 15.a.(3) to the Financial Statements for further details.
47
The amount in thousands of dollars has been translated from pounds Sterling at the rate of exchange as of December 31, 2009.
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9.7.2
The following is a concise description of the businesses of the principal investees who are not subsidiaries: F.
Cargo Consolidation: Air Consolidators Israel Ltd. ("ACI") ACI (a company 50%-owned by El Al) is primarily engaged in the consolidation of air cargo at BGN in order to reduce the price of air shipments. The air shipments are made by El Al at special prices and also via foreign companies. The shares held by El Al entitle it to appoint half of the members of the Board of Directors and give it the right to participate and vote in general meetings. The shares do not provide El Al with the right to receive dividends or any other benefit to be distributed by ACI, other than earnings and dividends distributed from capital gains. During 2009, the Company paid commissions to ACI to the amount of $808 thousand. The Group is evaluating the possibility of changing its holdings in ACI. For further details see Note 15.b.(2) to the Financial Statements. ACI's revenues in 2009 were $25,903 thousand, compared to $46,391 thousand in 200848. As of December 31, 2009, ACI employed 21 workers.
G. Flight Marketing: Tour Air (Israel) Ltd. ("Airtour" or "Tour Air") Airtour (a company 50%-owned by El Al) markets El Al flights and special promotions to all El Al destinations. The Air Tour shares held by the Group grant it the right to participate and vote in shareholders’ meetings and to appoint half of its directors, but do not grant the Group the right to receive dividends or earnings, other than earnings derived from share capital investments of Airtour. For further details see Note 15.b.(1) to the Financial Statements El Al pays Airtour a commission and participates in one half of its operating expenses. The few foreign airlines that use Airtour's services also pay a commission similar to that paid by El Al. It is Airtour's policy to transfer the lion’s share of the incentives it receives to the travel agents, based on their sales revenues at Airtour, and to distribute the earnings as dividends to its ordinary shareholders (the travel agents) through dividends. The revenues of Airtour in 2009 were $3,495 thousand. As of December 31 2009, Air Tour employed 62 workers. H. Touring and Hotels: Kavei Chufsha Ltd. ("Kavei Chufsha") Kavei Chufsha (a company approximately 20%-owned by El Al49) deals in the marketing and sale of tourism services, including as a wholesaler and as an organizer of charter flights to and from Israel. El Al’s investment in Kavei Chufsha was made in order to enlarge its marketing channels in the charter flights sector and to expand the Group's share in the marketing of tourism traffic. Kavei Chufsha performs its marketing via travel agents and by the distribution of seats and touring packages to the end consumer.
48 49
The amount in thousands of dollars has been translated from NIS at the rate of exchange as of December 31 2009 and December 31, 2008, respectively. To the best of the Company's knowledge, the remainder of the shares is held by A. Arnon Aviation and Tourism Ltd. (44%), Cohen Kana Investments Ltd. (35.2%) and Arnon Englander (0.8%).
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I.
Reservation systems: Sabre Israel Travel Technologies Ltd. (“Sabre Israel”). Sabre Israel is a private company that was incorporated in Israel as a joint venture between El Al (49%) and Sabre Inc. (hereafter: “Sabre”) (51%). This, by virtue of a 2001 collaboration agreement between the Company and Sabre. Pursuant to the suit filed by Sabre against the Company and the settlement they reached, the commercial agreement at the basis of the establishment of Sabre Israel came to a conclusion and on the date of the settlement (October 1 2009) the Company sold its entire holdings in Sabre Israel (49%) to Sabre. Until October 1 2009, Sabre Israel provided the Israeli travel agent sector with reservation services for flights of airlines worldwide as well as reservations for a variety of additional tourism services in the world (hotels, car rental reservations, etc.). In addition, until the date in question Sabre Israel also provided support and maintenance services to agents for the Carmel system. Until 2008, the Carmel system served as a reservation system for flight tickets, costing, ticketing, inventory management and check-in services. The Carmel system was linked online to all of the Company's sales offices in Israel and abroad, most of the travel agents in Israel, general agents of the Company. See Section 7.6.2 above for further details on the Carmel system and its replacement process. The revenues of Sabre Israel from January 1 2009 to October 1 2009 were $6,507 thousand. As of October 1 2009, Sabre Israel employed 36 workers. For details concerning the arbitration process taking place as part of the lawsuit filed by Sabre against the Company and regarding the dispute on the matter of communications and data processing costs between the Company and Cyber Israel see Section 9.14.11 below. For further details see Note 15.b.(4) to the Financial Statements.
9.8 Financing 9.8.1
Loans Not for Exclusive Use The Group does not have any loans (whether from banking or non-banking sources) which are not for exclusive use, excluding a credit facility, as mentioned in Section 9.8.3 below. For details regarding the Company's long-term bank loans see Note 22 to the Financial Statements.
9.8.2
Credit Limitations on the Corporation A. Observance of Collateral Ratio In accordance with the stipulations of each agreement, the Company has committed to some of its long-term credit issuers to maintain a proper collateral ratio between unpaid credit and collateral pledged to the bank. In general, the agreements for credit taken by the Company stipulate that the market value of the aircraft pledged should exceed the bank debt balance by 25% and that this should be verified once a year, on the basis of certain, agreed upon, international professional publications. Whenever the value of the collateral falls below that specified in the agreement, the Company is obligated to provide additional collateral to the lender, so that the ratio, as stipulated in
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the agreement, is maintained. As of the date of the approval and publication of the report, the Company complies with the restrictions and the financial covenants that were prescribed with the banks. See Note 18 to the December 31 2009 Financial Statements for further details. B. Single Borrower and Group of Borrowers Limitation The directives of the Supervisor of Banks in Israel include restrictions according to which the debt of a “single borrower” and of a ”group of borrowers” to a bank in Israel shall not exceed a given percentage of that bank’s shareholders’ equity. From time to time, these directives may affect the ability of some of the banks in Israel to grant additional credit to the Company. Due to the change in the holdings in the Company, whereby K’nafaim is the controlling shareholder and holds more than 25% of the Company’s issued share capital, the Group is considered a part of the K’nafaim group with respect to the borrower-group restriction placed on the granting of bank credit. In addition, in light of the weight of the Company’s long-term liabilities to banks in Israel, the Company may encounter difficulties raising additional credit in significant amounts from Israeli banks. C. Limitations on Transferring Control – The Company has made commitments to banks, according to which, should there be a transfer or change of control of the Company in any manner without the consent of the lenders, the lenders are permitted to demand immediate payment of the loan balances. D. Demand for Immediate Repayment by the Bank – The terms stipulated in certain agreements relating to loans taken by the Company include the bank's right to demand immediate repayment of the balance of the loans owed to that bank, as a result of a violation event such as: (a) if, in the bank's opinion, based on reasonable criteria, a change had occurred which adversely affects the Company’s financial position or its operations or its business or its financial ratios, in a manner endangering or potentially endangering the ability to repay the bank loans; (b) insolvency; (c) failure to make timely payments; (d) a situation in which the aircraft for which the loan was granted is uninsured and (e) a cessation of the Company's business and failure to renew them within 45 days; and (f) a merger or transfer of control without the advance written consent of the bank. For details on the matter of financial limitations and covenants involving the Company's long term loans, see Note 22.g to the Financial Statements. As of December 31 2009 and immediately prior to the approval of this report, the Company has upheld these financial covenants and obligations. 9.8.3
Credit Facilities As of December 31, 2009 the Company's credit frameworks amounted to $35 million, similar to the credit frameworks at the Company's disposal on December 31 2008. Immediately prior to the approval of this report the Company's credit frameworks amounted to $35 million. Use of these facilities is intended for any purpose.
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9.8.4
Guarantees for Collaterals With the drop in jet fuel prices from a peak of $145 per barrel (in summer 2008) to $33 per barrel (over the course of Q1 2009), the Company was required to provide collateral to guarantee its meeting hedging payments owed in accordance with its agreements with the hedging institutions. As of December 31 2009, the total requirement for collateral amounted to $47 million (versus $169 million on December 31 2008), and in addition the hedging institutions granted unguaranteed frameworks to the amount of $30 million (compared to $16.5 million as of December 31 2008). The Company pledged assets (aircraft and deposits) for the banks in Israel and abroad at the required extent.
9.8.5
Loans for Exclusive Use The Company has taken loans for the purchase of aircraft, the principal terms of which are listed in Note 16 to the Financial Statements. The balance of the bank loans as of December 31, 2009 stood at $795.2 million. Interest on loans in 2009 moved between 0.3% and 4.9%, and the effective interest on the loans in 2009 moved between 0.2% and 1.6%. In October 2006, the Company signed an agreement with a foreign bank for the receipt of financing of approximately $80 million, against a lien on two 747- 400 aircraft (with an option for an additional $10 million for each aircraft in order to finance its conversion to cargo - should it be decided to convert them to cargo). The financing is for a period of 10 years from the first withdrawal, with quarterly repayments of principal plus interest. In November 2006, the Company withdrew approximately $40 million of this facility, with the Company retaining the right to withdraw another $40 million. The bank refers to this right as through the Company has drawn down the amount with a principal payment prescribed in advance. The amount available to the Company is reduced according to principal repayments that were agreed in advance, until the date of actual withdrawal. In October 2008 the Company realized its right and withdrew $36 million. The sharp drop in jet fuel prices that required the pledging of assets or deposits of the Company's money to guarantee its obligations towards the hedging bodies, led to a sharp drop in available cash balances. The need to raise additional financing cost is strongly dependent upon the development of jet fuel prices for the near future, and as a result the Company has placed liens on the following aircraft: •
In December 2008 the Company signed an agreement with a local bank for the receipt of a line of credit intended to issue bank guarantees for the hedging institutions against the pledge of a 747-400 aircraft to the amount of $27 million (50% of its value). The Company used this line of credit to issue letters of credit for the fuel hedging institutions as collateral for the exposure created by the aforementioned drop in jet fuel prices.
•
In January 2009 the Company signed an agreement with a different local bank for the receipt of a line of credit intended for the issue of bank guarantees for the hedging institutions against the pledge of two 757-200 aircraft to the amount of $18 million and no more than 60% of the value of the hedged planes (the planes have been valued at $34 million). The Company used this line of credit to issue letters of credit for the fuel hedging institutions as collateral for the exposure created by the aforementioned drop in jet fuel prices.
As of its price today and based on the future curve as published daily by international
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commodities institutions, and according to the Company's estimates, no added funds will be needed to be raised to finance the Company's regular operations. For details see Note 39 to the Financial Statements. In April 2008 an agreement was signed between the Company and a Spanish airline for the purchase of three new Boeing 737-800 aircraft (marked EKH, EKJ and EKL), at $49 million per plane. To finance the agreement the company received loans from a foreign bank to the amount of $37.5 to $38 million each in return for liens placed on the aircraft in question. The loans were received in April, May and June 2009, for a 12-year period, bearing fixed interest of 3.62%, 3.62% and 4.01% respectively. The loans shall be repaid in 48 quarterly payments, principal and interest, on fixed dates each year. For further information regarding the transaction see 7.11 above The Company's estimates regarding the need to raise additional funds to conduct the Company’s business constitutes Forward-Looking Information, as defined in the Securities Law, which is based upon the price of jet fuel on the date of the report and on the Company’s assessments based mainly on past experience and its experience to date. Therefore, the need to procure additional sources of finance for the Company’s operations may be materially different from the results assessed or implied from this data, as the result of a large number of factors, including changes in jet fuel prices, liquidity considerations, outfitting, unexpected expenses borne by the Company, unexpected events that may have a negative impact on the Company’s activities and changes in interest rates.
9.9 Taxation 9.9.1
Tax Laws to which the Company is Subject According to the Income Tax Regulations (Rules Concerning the Maintenance of Accounting Records of Airlines with Foreign Investments and of Certain Partnerships and the Determination of their Taxable Income), 1986, the results of the Company and some of its subsidiaries are measured for tax purposes based on adjustment to the exchange rate of the U.S. dollar. Some of the subsidiaries are assessed jointly with the Company. Pursuant to the Income Tax Regulations (Depreciation), 1941, the Company is entitled to depreciate aircraft it owns at an annual rate of 30% of cost and spare engines that it owns at an annual rate of 40%. In accordance with the Value Added Tax Law, 1975, transactions for the sale of flight tickets to and from Israel, or from one destination abroad to another, as well as cargo transport by air to and from Israel, have been defined as transactions regarding which the VAT rate is zero.
9.9.2
Status of the tax assessments of the Corporation The Company and its subsidiaries have received final tax assessments (including self assessments that are regarded as final) for the period through the tax year: Tax Year The Company
2005
Principal direct subsidiaries
2005
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9.9.3
Tax Laws that Apply to Significant Affiliated Companies Incorporated Abroad The overseas subsidiaries are subject to the tax laws applicable in the countries of residence. Most of the countries in which the Company operates representative offices are signatories to treaties for the prevention of double taxation or mutual arrangements between the nations, which exempt the Company from the payment of income taxes on its operations in those countries.
9.9.4
Reasons for Material Differences Between the Effective Tax Rate and the Statutory Tax Rate See Note 28.d to the Financial Statements.
9.9.5
Cumulative Losses for Tax Purposes The balance of income tax losses as of the end of the 2009 tax year (based on an estimated tax return for 2009) amounted to a total of $651 million. The Company recognized deferred tax assets for losses accumulated for tax purposes to the amount of $127 million and for deductable timing differences of $53 million. See Note 28 to the Financial Statements. Tax assets were listed after offsetting taxable timing differences deriving from accelerated aircraft depreciation for tax purposes.
9.9.6
Income Tax – Withholding: The Company received withholding assessments for 1998 to 2005 in the matter of the benefit value of flight tickets granted employees – flight tickets on the basis of available seats free of charge or flight tickets with a 50% discount for which disputes exist with the tax authorities. See Note 27.e to the December 31 2009 Financial Statements regarding the disputes with the tax authorities regarding withholding taxes for employee benefits.
9.10 Environmental Issues 9.10.1 Significant Implications of Rules Pertaining to Environmental Matters Many countries, including Israel, have adopted the conventional international standards regarding engine noise of aircraft and have prescribed additional directives for environmental conservation. Restrictions exist in various airports in the world as to the times of takeoff or landing of aircraft. The schedules of airlines, including those of the Group, are determined in accordance with these restrictions. The Company attributes a great deal of importance to the subject of the environment and invests resources and time to this issue (inter alia through the Company's Safety and Quality Branch, which is responsible for these activities). The Company's representatives take part in professional conferences and make sure to remain at the global professional forefront of the field of the relationship between aviation and the environment. Group representatives are also members of the Interdepartmental Committee for the Improvement of Noise Climate at BGN and the Company has put a great deal of effort into
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this field. Thus, for instance, the Company's entire management forum, which convenes once per week, opens with a report on all environmental safety events (including photographs). The Company has mapped its entire areas of interest and assigned each area to a company executive, with each executive responsible for problems in his area of responsibility. The management forum performs follow-up regarding the rectification of these problems. In addition, the Company is undergoing ISO 14001 environmental certification, which is expected to continue until mid-2010. The Company launched an internal campaign to increase environmental awareness, with each area of the Company having a person assigned as responsible for the environment, pollution prevention and careful use of resources. The Company is acting to complete its writing of work procedures on the matter of environmental protection, training and increasing awareness among Company employees, implementing work processes and increasing enforcement. In this regard, in 2009 a survey was conducted in order to achieve initial identification and analysis of environmental, work safety and cleanliness issues at Company facilities, and significant improvement was observed in the Company's treatment of environmental issues compared to previous years, this as a basis for establishing environmental indices and goals. The Company has set preserving the environment as one of its goals, and shall act to develop and implement management systems that recognize and take into consideration environmental implications and risks evident in Company activities, inserting environmental awareness into the business planning and business activity, establishing and constantly testing environmental targets and goals, promoting processes and work procedures involved in the reduction of environmental damage, reducing waste, continuing with recycling efforts (in-flight and on the ground), and increasing awareness among Company employees. 9.10.2 Restrictions on Night Takeoffs at BGN According to a Government resolution (PS/15 of July 15, 1997), BGN has halted takeoffs between the hours of 02:00 and 05:30, starting October 30, 1998. In the summer of 2002, the Minister of Transportation decided to expand the prohibition on night takeoffs and to set it between 01:30 until 06:00. Some of the foreign airlines in Israel petitioned the High Court of Justice. The case was closed in a compromise under which the petitioners were permitted to start engines and to carry out arrangements that would allow the aircraft to leave at 05:50. In April 2007, a proposal was brought before the Inter-ministerial Committee for Environmental Matters, which includes restrictions on take-offs from BGN of Noise Level-3 category aircraft between 23:00 and 06:00, the ability to take off during all hours of the day for Noise Level-4 category aircraft, reducing the permitted noise levels day and night, and various restrictions on the operation of aircraft. The Ministry of Transportation and the Civil Aviation Authority are examining the matter of operating BGN during night hours, this among other things in light of plans to renovate the BGN runways. In addition, the Company has been informed that the CAA registered a 2decibel reduction in noise levels in certain circumstances and the Company is studying the implications of this publication regarding its activities. According to the Company's estimates, the implementation of a decision restricting activity
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at certain hours, as stated above, of aircraft with certain characteristics in the Company's service, may on the one hand have a negative impact on the Company's operational abilities as regards the operation of various aircraft or various flights, particularly the 747200, 767-200 and 747-400 in the Company's service and thus influence the Company's ability to operate flights. On the other hand, the option to perform takeoffs of certain aircraft at all times of day may have a positive effect on the operational ability of these aircraft, taking better advantage of their operation. Over the course of 2009 the Company continued its process of removing older aircraft from the Company's operational fleet, in accordance with the El Al 2010 strategic plan. In July 2008 the Company received a letter of warning prior to the filing of a criminal complaint (according to Section 11.e of the Hazard Prevention Law – 1961) from the Israeli Public Committee for the Prevention of Noise and Air Pollution (hereinafter: "MALRAZ"). In its letter to the Company and its executives, MALRAZ claims that in accordance with the noise monitoring reports from 2003 to 2008, a violation has occurred, it claims, of Section 2 of the Hazard Prevention Law. The Company is studying the claims and has been holding talks with MALRAZ with the aim of cooperating on this issue. The Company’s estimates regarding the implementation of a decision restricting the activity of certain aircraft or activity at certain hours constitutes Forward-Looking Information, as defined in the Securities Law, which is based on the proposed resolutions, estimates, experience and knowledge possessed by the Company as of the date of the report Accordingly, the actual results may be materially different from the results assessed or implied from this data, as the result of a large number of factors, including changes in the final wording of the regulatory directives to be enacted, the results of legal proceedings, legal or operational provisions in the destination airports or foreign airports, equipment purchases, environmental implications, etc. 9.10.3 Noise Regulations at Airports Following the decision of the European Unit to fine airlines for air pollution, airlines, including the Company, began making preparations for the plan (emission trading scheme), in which the airlines are expected to supervise and report on CO2 emissions for flights landing and/or taking off at the EU starting 2010. As a result of this plan the monitoring plans were filed and approved and a command and control system was developed. The Company is expected to file its first report for approval at the end of 2010. The noise restrictions that are specified by the U.S. aviation authorities are catalogued into four levels: Stage 1 to Stage 4. Stage 4 is the most severe level; the most prevalent restriction in most airports in the world is Stage 3. At central airports, such as London, Amsterdam, Brussels, Toronto, New York, Paris and BGN, more severe restrictions than Stage 3 are in effect. As a result, operational restrictions are placed on 747-200 aircraft at those airports (permissible takeoff weight, climb rate after takeoff). All Group aircraft meet Stage 3 restrictions, and most even comply with Stage 4 (for 747-200 aircraft taking off at maximum weight, the Stage 3 restriction is borderline; they do not comply with the Stage 4 restrictions). In addition, according to the decision of the European Union Parliament and Joint Commission of March 2002, the Union's member nations are required to implement policies intended to restrict the operations of aircraft defined as borderline from the standpoint of noise level. The Group has 4 747-200 type aircraft to which this restriction might apply. This policy is meant to be implemented in the following stages: (a) each EU
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nation will pass the legislation necessary to permit the decommissioning of such aircraft; (b) the performance of an environmental survey at the airports of EU nations, which includes a cost-benefit analysis regarding the continuation of the operation of borderline aircraft at the airports. The survey is to be performed in consultation with the parties affected by its conclusions; (c) in the event that the results of stage (b) lead to the conclusion that there is justification in restricting the continued operation of borderline aircraft in any of the airports, the aviation authorities will have the authority to instruct the airlines to freeze the number of flights on which these borderline aircraft will be operated at the subject airport, to an extent not to exceed the number of flights during the 6 months preceding the freeze notice; (d) commencing with a date to be determined by the aviation authorities of each nation, and after giving advance notice of 12 months, the activities of the borderline aircraft will be reduced by up to 20% annually in comparison with the maximum volume of activity decided upon. To the best of the Company’s knowledge, as of the date close to the approval of the report, consultation with the airlines has not yet begun in any European country and, in some of the countries, the relevant laws have not even been passed. If and when the restrictions are imposed, operation of 747-200 type aircraft may gradually become economically unfeasible, even impossible. On the matter of flight restrictions related to noise levels created by planes taking off see Section 9.10.2 above. The information on the imposition of restrictions on the operation of 747-200 aircraft or the passing of a government resolution containing certain limitations is Forward-Looking Information, as defined in the Securities Law, which is supported by the Company's assessments based on data the Company has regarding the progress of the legislative process and application in this matter. Therefore, the effective date of the restrictions on the operation of the aircraft could be materially different from that forecasted, as a result of a variety of factors, including the conduct of the authorities in the various European countries and the Company's equipment purchases. 9.10.4 Waste Treatment The Company’s waste is treated at a new central facility within the confines of BGN, approved by the Ministry of the Environment and operated by the Airports Authority, with the Company participating in 10% of its operating costs. The Company has been operating a plant at a cost of $600 thousand since June 2009. The Company facility, built on the Group’s land, transfers the waste to a central treatment facility built by the Airports Authority. The Group pays usage fees to the Airports Authority for the use of the main plant of approximately $75,000 per year over 22 years. At the same time, the toxic waste created by the Company is transported to the Environmental Services Company at Ramat Hovav. 9.10.5 Fuel Tanks All of El Al's fuel tanks were examined during the second half of 2002 by an outside consultant who found that all of the tanks were appropriately sealed. In addition, an examination was performed by an authorized laboratory in December 2003, and all of the tanks were found to be in order. The Sonol fuel company also installed viscometers (devices that prevent the seepage of fuel from tanks into the ground) in some of its fuel tanks during the final quarter of 2004, pursuant to the regulations of the Ministry for
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Environmental Matters. The Group regularly carries out specific treatment of toxic soil waste, if such exist. 9.10.6 Material Environmental Costs and Investments for the Reported Year and Those Anticipated Subsequently: The Company carries out a great number of activities and invests financial expenses in improving environmental elements, including the establishment of a waste removal facility that will collect the Company's wastes in the event of deviation from waste quality (in accordance with its agreement with the Airports Authority), separating oil in the Company's yards and performing local separations between the drainage and sewage systems. 2008 Material costs
2009
Usage fees for waste
2010 (Expected)
$75 thousand annually
$75 thousand annually
About $510 thousand
About $800 thousand
About $440 thousand
annually
annually
annually
About $585 thousand
About $875 thousand
About $515 thousand
annually
annually
annually
treatment plant: up to $75 thousand annually Material investments Total
Information concerning the material anticipated environmental costs and investments represents Forward-Looking Information, as defined in the Securities Law. The information is based upon the requirements of the environmental laws presently in effect and on current market prices of the goods and services that the Group must purchase in the framework of the environmental investments. Therefore, the actual costs and investments may vary materially from the forecast as above, as the result of a large number of factors, including legislative changes, requirements of the authorities and changes in the prices of the goods and services that the Group will be required to buy in the framework of the environmental investments. 9.10.7 Restrictions on the Level of Engine Emissions Following growing world awareness to global warming, governments have become interested in monitoring and restricting the level of air pollution produced by engines. During coming years, laws are expected to be enacted on the matter in different countries all over the world. On January 1 2012 an EU regulation shall come into effect, establishing conditions for the supervision, reporting and confirmation of gas emission in incoming and outgoing EU flights, this following the inclusion of aviation under emission policies in existence for other branches, as established in the EU decision dated June 26 2008. In addition, an economic remuneration mechanism was established, according to which each Company shall receive an emissions cap in light of past emission data. Exceeding this cap will require the purchase of an additional cap and reduction will allow the sale of the cap. Note that calculation of the caps and the economic pricing has yet to be fully established and are
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subject to fluctuations and changes. Over the course of 2009 airlines were required to submit supervision programs on the subject of emissions. In accordance with the EU decision, the Netherlands were appointed supervisor of the Company's activities. The report obligation, the reporting procedures and the manner of reporting have yet to be fully established and binding directives on this subject are expected over the next few months. Starting January 2010, the Company has been operating a CO2 emission monitoring and tracking system on all of its flights in order to help reduce air pollution and preserve the environment. This monitoring system is automatic in most of the Company's aircraft and manual in some. The system was approved by European authorities and is used to collect CO2 emission data. The information concerning the passing of legislation on this issue constitutes Forward-Looking Information, as defined in the Securities Law, based on the Company's assumptions and projections. Therefore, the actual results of the passing of these legislative changes or their impact on the Company's activities may differ materially from the results estimated or implied by this information. 9.10.8 Fly Green The Company is active in the Fly Green Forum of IATA, and carries out activities with the objective of positioning the Company at the forefront of environmental air protection, inter alia, by using clean fuels (purchasing fuel only from suppliers that comply with the standard's conditions), significantly reducing the use of fuel and reducing the emission of pollutants from the Company's planes, by frequently washing aircraft engines, adopting more efficient operating procedures, etc. The Company convenes a panel headed by the VP of Operations once a month to deal with this subject. In an outside audit performed in October 2007 for the Company by IATA with respect to fuel savings and reducing pollution, the Company was certified as "exceptional" in this area. The Company announced that 2009 would be the Year of the Environment. As part of its activities, a helming committee was formed headed by the VP of Operations, and a "Green El Al" team, which includes representatives from all divisions. The Green El Al team led activities encouraging the used of environmentally friendly materials, recycling, separation and disposal of waste and energy savings.
9.11 Restrictions and Regulation on the Corporation’s Business 9.11.1 General Most aspects related to the operations of the Company as an air carrier are subject to a system of regulatory arrangements - Israeli and international - which relate, among other things, to flight rights, setting of tariffs, capacity and flight safety standards, security and noise, and are conditional on a commercial operating certificate and an operation certificate. See Section 9.11.2 below as to regulatory arrangements and Sections 9.11.3 9.11.5 below as to business and operational licenses. In addition to operational licenses, the Company’s operations are contingent upon it being an Israeli air carrier (principal ownership and control by the State or its citizens), its appointment as a Designated Carrier and on the permits of foreign countries allowing it to make use of the flight rights given to it as a Designated Carrier. See Sections 9.11.6 9.11.8 below on the matter of air transport agreements and the civil and international aviation policy of Israel.
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In addition, there are further restrictions that apply to the Company’s operations deriving from the Special State Share. See Section 9.11.9 for details. 9.11.2 Regulatory Arrangements The following are the main regulatory arrangements, Israeli and international, which relate to the Company’s operations as a Designated Carrier. (See Section 9.11.2 below for civil aviation security arrangements, and Section 9.11.13 below for operations under emergency circumstances). (a) Aviation Law 1927 (hereafter “the Aviation Law"). This law and the regulations issued under its provisions, regulate, inter alia, the following matters: registration and nationality of airplanes, approval of aircraft as fit for flying, approval of crews and licensing of flight personnel, safety, operation of airplanes and rules of flight, licensing of inspection institutes, self maintenance, etc. (See also Order in Council on Air Navigation in the Colonies (Imposition of Laws), 1937). In November 2007, the Ministry of Transportation distributed a draft memorandum of the Aviation Law – 2007, the purpose of which is to provide a comprehensive legal response to arranging the field of civil aviation for its safe, orderly and effective operation, conforming to international treaties. The memorandum proposes an amendment to existing legislation, inter alia, on the operation of aircraft, aviation licenses, accident investigations, transport of hazardous materials and it confers very broad authorities on the Civil Aviation Authority. The Company has sent comments on the Circular of Aviation Law to the Ministry of Transportation. (b) Aviation Services Licensing Law, 1963 (hereafter - “Licensing Law”)50 This law, which regulates the principles of aviation licensing, was amended in 200651, and the principles of the law (following the amendment) are as follows: (1) The law prohibits operation of aircraft in a commercial flight (passenger or goods transported for compensation) or the leasing of aircraft for flight to or from the State or within its territory, except under license from the Minister of Transportation and in accordance with the conditions of the license (Section 2 of the law). (2) The law grants authority to the Minister of Transportation, after consultation with the Minister of Tourism and after obtaining the opinion of the professional committee,52 as follows: (a) When issuing or renewing the license (Section 3 of the law), to stipulate conditions regarding the operation of aircraft, the proposed services, the training and experience of those engaged in operating and inspecting the 50 51 52
A commercial operating license and an operational license were granted to El Al under the authority of the law- see Sections 9.11.4-9.11.5 The law was amended in the framework of the State Economy Arrangements Law (Law Amendments in Order to Achieve Budget Goals and the Economic Policies for the Fiscal Year 2006). The amendment became effective 7.1.2006. A committee composed of the managing directors of the Ministries of Transport, Tourism, Prime Minister and Finance and the Civil Aviation Authority, the function of which is to render an opinion to the Minister of Transportation on any matter relating to licenses, for which an opinion is necessary.
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aircraft, aviation routes to be operated by the license holder and operational standards by which he should operate, frequency of the services, rates and insurance. (b) To refuse to grant a license if, among other reasons, it might damage the regulation in the aviation market, or its planning or the security of the State or contrary to its interests or the matter does not comply with an agreement between Israel and a foreign country or if the flight might cause damage to public safety or could lead to unfair competition in the civil aviation industry due to prices set below a fair price (Section 5 of the law). (c) To make a license conditional or to revoke it if one of the following is discovered: (a) one of the license's conditions or a directive under any law that applies to operation of aircraft has not been fulfilled; (b) the aircraft is not operated safely, efficiently, in a capable manner or with proper consideration of public need; (c) one of the grounds exists according to which the Minister of Transportation is permitted to refuse to grant a license in accordance with this law. The significance of the amendment to the law is the involvement of the Ministry of Tourism (and, to a certain extent, the Ministry of Finance and the Office of the Prime Minister, as well) in the decisions of the Minister of Transportation in the context of his authorities under the law. See Sections 7.1.10, 7.8.4 above and 9.18.7 below as regards the effect of the changes in competition have on the Company. (c) Licensing regulations The regulations issued under the auspices of the Licensing Law regulate, inter alia, aircraft operation and flight rules, operation of flight schools for flight instruction, transfer and endorsement of transport documents on scheduled flights, flying time restrictions for aviation services, overbooking, licenses for operating and leasing aircraft and operations of charter flights (d) The Air Transport Law, 1980 This law and the orders and the notices issued thereunder adopt a number of international conventions which stipulate various rules relating to international air transport, particularly regarding the air carrier’s liability for damages (bodily damage and property damage), caused during international air transport, and the damages imposed on the air carrier for this liability. This law applies the treaty for the purpose of consolidating certain rules pertaining to international airborne shipping (the Warsaw Treaty), and their revisions. In May 1999 a new treaty was prepared in Montreal establishing rules for international civil airborne transportation (hereinafter: "the Montreal Treaty") the purpose of which is to formulate, update and modernize the existing set of rules, including raising the limits of liability for damage caused a passenger's person or property, adding judicial powers and requiring air carriers to take out insurance. As of this report, the State of Israel has yet to adapt the Montreal Convention, as a legal amendment is required to ratify it. In December 1999 the Airborne Shipping Law (2nd Amendment), 2009 was passed, the purpose of which was to create clarity and uniformity in the areas of responsibilities, compensation and authorities in the area of airborne transport while adopting the updated and uniform Montreal Treaty.
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(e) Regulation 261/04 of the European Union – New Conditions for the Compensation of Passengers Denied Boarding On February 17, 2005, a European Union regulation came into effect establishing conditions for denied boarding ("overbooking") of passengers from flights, flight delays and flight cancellations. This regulation pertains to scheduled and chartered flights that leave from countries belonging to the European Union (including flights to Israel). The regulation stipulates, inter alia, compensation to passengers denied a flight and to passengers whose flight has been cancelled without giving them advance notice within the times specified in the regulation. Additionally, such passengers are entitled to a substitute flight or to a refund of the payment for the flight ticket, at their choice. The regulation also stipulates the right of passengers booked for a flight that sustained an extended delay in the time of takeoff, to a refund of the payment for the flight ticket. In 2004, a private bill was submitted in Israel that is in essence based upon this regulation, but was rejected by the Ministers' Committee on Legislative Affairs and did not pass on the first reading. In late 2007, the Bill for Damages and Assistance to Passengers due to Delay or Denial of Boarding a Flight, 2007 passed in a preliminary reading in the Knesset. The wording of the bill has been amended several times over the years and currently the Bill for Damages and Assistance to Passengers due to Delay or Denial of Boarding in a Flight, 2010 has been brought before the Knesset Finance Committee. The bill seeks to adopt Regulation 261/04 of the European Union and to apply it to all flights (scheduled and charter), from all destinations, including flights departing Israel. The bill and regulation was discussed by the Knesset Finance Committee, and in view of the understanding that the bill's wording could create a lack of uniformity with the existing legislation (local and international), and in order to conform it to the nature of Israeli aviation, it was agreed that the necessary modifications would be made to the bill's wording. Passage of the bill could increase the scope of the financial damages paid to passengers by airlines, among them the Group. The Company's assessment of the scope of the damages if this legislation takes effect could constitute "Forward-Looking Information" as defined in the Securities Law, which is based upon assumptions and forecasts of the Company. The actual outcome of the change in legislation, as stated above, or the extent of the effect of the change in legislation, if passed, on the Company's operations, may be materially different from the outcome estimated or which might be deduced from this information. (f) Equal Rights for Persons with Disabilities In the third chapter of the Equal Rights Regulations for Persons with Disabilities (Accessibility Arrangements to Public Transport Services), 2003, provisions were prescribed regarding the obligation to integrate assistance for persons with disabilities in aviation transport, which imposes various obligations on air carriers as a condition for operating aircraft. In July 2007, Regulation 1107/2006 of the European Union came into effect, imposing various obligations on the air carrier and the travel agent in all that relates to booking reservations and flight check-in, in order to provide special protection for people with disabilities. The Regulation's provisions apply to every flight to and from the European Union states. In July 2008, the regulation dealing with the obligation to provide disabled passengers various means of assistance at airports (for whom the airlines
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will bear the cost) and which requires airlines to provide their employees with instruction on the subject came into effect. As of this report the Knesset Labor Committee subcommittee is deliberating on the wording of the Equal Rights Regulations for Persons with Disabilities (Accessibility Adjustments for Service), 2008. These regulations were designed to compel all public service providers to make the information they provide at the request of a person with disabilities more accessible. In addition, the regulations specify the means of assistance and assisting services through which information provided persons with disabilities must be made more accessible. (g) Airport Authority Law – 1977 This law, the regulations and rules issued under its auspices, regulate, inter alia, the following matters: aviation fees, transport by import couriers, entry into restricted territories, licensing fees and the unloading and loading of aircraft. A suggested amendment to the Airport Authority Regulations (Fees) was filed in 2008, presented by the government to the Knesset Economic Committee, which features a significant increase in travel fees as well as tariffs and payments paid by airlines operating out of BGN, including the Company, at an average rate of some 51%. The Company and the various airlines operating out of BGN, the foreign airline panel and IATA all objected to the proposal. The amendment to the Airports Authority Regulations (Fees), 1991 came into effect on January 1 2009, the key point of which being the increase of exit tariffs from $13 U.S. to $21.70, integrating a linking mechanism for payment of the fees and raising the remainder of services by a rate of 10% across a two-year period (5% from January 1 2009 and an additional 5% from January 1 2010). (h) The Civil Aviation Authority Law – 2005 This law designates the functions of the Civil Aviation Authority, which replaced the Civil Aviation Administration. Among the functions of the Authority are: to determine and assure the existence of internal and international flight regulations according to aviation laws; to grant civil aviation licenses, permits and approvals, according to aviation laws; to supervise the civil aviation sector, including maintaining a proper level of flight safety for Israeli aircraft and for aircraft that are present in Israeli air space. It should be clarified that in 2006, the Aviation Regulations (Registration, Licensing and Documentation Fees) (Temporary Order) 2006, came into effect, which prescribe the tariffs to be paid under the various aviation laws and regulations. The amendment made within these regulations was intended to finance the functioning of the Civil Aviation Authority, which was established under the auspices of the law. The Aviation Regulations (Registration, Licensing and Documentation Fees), 2009 (hereinafter: "The New Regulations") came into effect December 31 2009. The New Regulations replaced the temporary order, which concentrated the subject of fees for the purpose of receiving services from the Civil Aviation Authority by virtue of aviation law. The new regulations include an update to fee rates as well as new fees, among other things in the area of aircraft leasing and charter flights. Lowering of the State of Israel's Safety Rating to Category 2 On December 19 2008 the U.S. Federal Aviation Agency (the FAA) announced that it would be lowering the flight safety rating of the State of Israel to Category 2. This announcement refers to the level of supervision of civil aviation safety in the State of Israel by Israeli aviation authorities including the Civil Aviation Authority at the Ministry
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of Transportation. Despite the fact that the FAA announcement was not directed at Israeli airlines and that the review or the safety rating do not derive from the performance or the safety of the Israeli airlines, the implication of the announcement is the casting of active limitation on airlines flying from Israel to the U.S., including the Company, pertaining to, inter alia, restrictions on increased activity, testing Israeli airlines in the U.S. as well as restrictions on code sharing agreements with U.S. airlines (for details regarding the impact on the code sharing agreement with American Airlines see Section 7.2 above). The effects of the rating decrease may harm the Company, including by freezing bilateral agreements and the inability to alter existing agreements; freezing commercial agreements without the possibility of submitting requests for added frequencies, adding flight times, changing destinations or receiving new flight destinations; freezing airlines' operational operator's licenses and the inability to add or integrate new aircraft on these routes; damaging code sharing agreements; careful examination of planes arriving from Israel to the U.S, which may lead to significant delays in planned flight times. The Company has been conducting tests to assess the announcement's impact on its activity and financial results. Note that in March 2009 the Company addressed a letter to the Minister of Transportation and Road Safety in which it noted that the State was responsible for the decreased flight safety rating and the damages caused the Company as a result. In addition, the Company approached the CAA with a request to conduct all actions required in conjunction with European safety authorities in order to prevent a similar European announcement. The CAA replied to the Company that Israeli aviation authorities have been maintaining close contacts with the European counterparts in order to ensure that no harm occurs to Israeli aviation and that EU representatives have informed CAA representatives that they have no intention of lowering the safety ratings of Israeli airlines. The Company's assessment with regard to the FAA announcement regarding the safety rating of the State of Israel and its impact on the Company, as well as regards safety restrictions imposed by the European safety authorities may constitute Forward-Looking Information, as defined in the Securities Act. Therefore, the actual outcome of this announcement or restrictions pertaining to safety or the extent of their impact, whatever they may be, on the Company's activity may be significantly different from the outcome expected or implied by this information. (i) The Business Restrictions Law, 1988 Amendment no. 10 to the Restriction of Business Law, which cancelled the statutory exemption currently granted to arrangements between air carriers regarding international shipping, came into effect January 1 2009. In place of the statutory exemption, a class exemption was installed by the Restraint of Trade Commissioner (hereinafter: "the Class Exemption" and "the Commissioner", respectively) which exempts various types of arrangements between air carriers, with the goal of preventing sweeping and unwanted incidences of the binding arrangement chapter on the thousands of arrangements which serve as the basis of aviation activity to and from Israel and which pose no risk to competition. The class exemption deals with a broad range of arrangements and provides an
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exemption from licensing requirements to various operational arrangements, interline and cargo arrangements which do not include an assurance of a minimal amount of flight tickets or cargo capacity and frequent flyer agreements. The Class Exemption also includes "dry" lease arrangements (leasing the plane alone, without the crew) and non-long term "wet" leasing (leasing the plane, crew included), but sets special restrictions on leasing agreements carried out with Israeli air carriers. The class exemption also applies to code sharing agreements, subject to material limitations and restrictions set in it. The type exemption includes transition directives, according to which a binding agreement made prior to the application of the amendment and which is covered by the statutory exemption will not require approval for 9 months from the beginning of the class exemption. The class exemption is based on a former draft published by the Commissioner on March 2008, to which the Company had a great number of remarks and reservations, which the Company delivered to the Commissioner both verbally and in writing. Even though the class exemption included important and material revisions, inter alia in accordance with the Company's remarks, the Company believes that the wording of the class exemption is still too restrained (mainly as regards the extent of the exemption granted code sharing agreements) and it places unnecessarily burdensome regulatory restrictions that may harm the welfare of the Israeli passenger as well as the Company's activities. The Company intends to approach the Commissioner in the future with a request to amend the class exemption, in accordance with experience accrued from the application of the type exemption in its current format. On March 31 2009 the Company petitioned the Commissioner with a request for an exemption from the requirement for the receipt of court approval for binding arrangements (hereinafter: "the Exemption Request"). On September 21 2009 the Restriction of Trade Commissioner reached decisions (hereinafter: "the Decisions"). According to the Commissioner's decisions, the exemption requests were approved as regards code sharing agreements between the Company and the following carriers: American Airlines, Swiss Airways, Iberia, Czech Airways, and Thai Air. In addition, according to the Commissioner's decisions, the exemption requests for arrangements between the Company and the following foreign carriers were not approved: Air India, Lot, Austrian, Tandem, Bulgaria Air and Aerosvit, as well as the commercial agreement between the Company and Air India. The Commissioner's explanations for the requests he failed to approve were provided on November 3 2009. Five agreements were withdrawn by the Company prior to the Commissioner's decision. These are agreements with the following companies: Belavia, Brussels Airlines, Korean Airlines, Tarom and South Africa Airways. Note that according to the Restraint of Trade Law, 1988, the Company reserves the right to present the agreements not exempted by the Commissioner to the Restraint of Trade Court for approval. Recently, the Commissioner issued an exemption for the code sharing agreements between the Company and Air China (signed June 2009) and the Turkish airline Atlas Jet (signed December 2009). The Company's assessment with regard to the impact on the Company's activity as a result of the implementation of such legislation may constitute forward-looking information, as defined in the Securities Act, based on Company assumptions and forecasts. Therefore, the actual outcome of this
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legislative change on the Company's activity or on its ability to enter into agreements, as stated above, may be significantly different from the outcome expected or implied by this information. See also Section 9.18.17 below regarding this matter. Decisions and Proceedings on the Subject of Monopolies On October 27, 2005, the Company received notification from the Restraint of Business Commissioner concerning his designation of the Company as the holder of a monopoly in transporting time sensitive (business passengers) and price sensitive (vacation travelers) passengers in the civil aviation market to the destinations of: Johannesburg, Hong Kong, Bangkok and Bombay (hereinafter:" the Commissioner's Decision"). It should be pointed out that the Beijing route, mentioned in the Commissioner's March notification, was not included in his notice of pronouncement as a monopoly. It should also be mentioned that, in March 2005, the Commissioner gave notice that he is examining the status of El Al on 19 routes: Brussels, Marseilles, Paris, Berlin, Munich, Moscow, Geneva, New York, Odessa, London, Vilna, Oslo, Palermo, Turin, Crete, Koss, Rhodes, Stockholm and Dublin. The following are the key points of the Commissioner's decision, as received at the Company's offices: A. The Commissioner classified and characterized consumers in the passenger aviation sector into two categories: time sensitive passengers and price sensitive passengers. B. The Commissioner determined that, as a rule, for the aviation sector in Israel, the geographic market should be defined based on the departure points and the destination points of the flight route (city pairs). C. The Commissioner determined that as to substitutability between charter flights and scheduled flights, since charter flights had not been operated to the destinations included in the pronouncement as of 2004, or had existed marginally, there is no need for him to reach a decision on this matter. However, he did stipulate that, in principle, charter flights are not a substitute for business passengers. D. Regarding the substitutability between scheduled flights, the Commissioner has determined that, for vacation passengers, an indirect flight will be, in certain instances, a substitute for direct flights. However, this will apply mainly to long flights when the overall flight time is not extended much longer than the direct flight. Regarding business passengers, the Commissioner determined that, as a rule, an indirect flight is not a substitute for a direct flight, except if it is particularly more advantageous for them than the direct flight, such as being more frequent than the direct flight. E. The Commissioner stated that for markets denoted in the announcement, El Al is the sole airline operating direct, scheduled flights. He also stated that the Authority approached all of the foreign airlines that were thought to be relevant, and an examination of the market shares in the destinations covered by the pronouncement disclosed that El Al holds (as of the date of the examination) the following market shares: Tel-Aviv - Johannesburg route - A market share in excess of 90%, for both
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business and vacation travelers. Tel-Aviv - Bombay route - a market share in excess of 80% for business travelers and 80% for vacation travelers. Tel-Aviv - Bangkok route - a market share in excess of 80% for business travelers and in excess of 70% for vacation travelers. The Tel-Aviv - Hong Kong route - a market share in excess of 90%, both for business travelers and for vacation travelers. The Commissioner also declared that the examinations performed had indicated that, even if indirect flights to other destinations in the same countries were included in the analysis of El Al's market share, this would not alter his conclusion. On March 30, 2006, the Company filed an appeal with the Business Restrictions Tribunal regarding the Commissioner's decision. The appeal requests that the Tribunal revoke the declaration with regard to the markets that are the subject of the decision, in whole or in part. Among the principal allegations on which the appeal is based: the assertion that the Commissioner's market definition is erroneous and disregards the characteristics of competition for flights from Israel to long-range destinations in East Asia; the assertion that the Commissioner's analysis relating to the substitutability of demand alone is a deficient and erroneous analysis, which ignores the current substitutability from the viewpoint of supply, despite it being immediate and lacking sunken costs; the assertion that the Commissioner's judgment in his decision to invoke his authority to declare a monopoly was erroneous in principle – the Commissioner erred in the manner in which he used his judgment and in the probability of the results of his declaration; the assertion that even according to the definitions of the market that were adopted by the Commissioner, the Company does not transport more than 50% of the passengers between Israel and India. In November 2007, the Commissioner filed his request that the appeal be summarily dismissed, and in May 2008 the Court rejected the request to dismiss the appeal outright, as the relevant market question has yet to be ruled upon in Israel, and one cannot ignore the fact that the practical test adopted in the court ruling is not free of supply considerations and that the need to test the proper market definition is reinforced when the parties cannot agree on the relevant facts. The Court ruled that the Commissioner must treat all airlines equally. At the same time, the Court stated that treatment of the equality must be carried out in a different forum and not within the framework of the appeal on the revocation of the declaration. In February 2009 the Court approved the Company's request for an unlimited deferral of the discussion on the appeal in order to study the possibility that the Company withdraw its appeal in light of the extensive changes occurring and expected to occur in the aviation market. The Court permitted the Company to inform it, until the end of its current session, whether it intends to hold a specific hearing on the appeal. Pursuant to this approval, the Business Restrictions Authority filed a motion to revoke the ruling in question and file a response and in March 2009 the Business Restriction Tribunal rejected the Commissioner's request to revoke said decision. See 9.18.17 below for more details. In September 2009 the Restraint of Business Court accepted the Company's request to withdraw the appeal without an expenses order. The Company stands by its claims in its petition, and believes that its declaration as a monopoly holder for the routes denoted in the declaration is erroneous, but in light of
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the far-reaching changes occurring in the aviation market with the advancement of the "Open Skies" policy by the State of Israel, opening routes to Israel for additional carriers, the appointment of other Israeli carriers as Designated Carriers, the activities of new airlines on routes to Israel, including Low Cost companies, and the trend of mergers and alliances between foreign airlines around the world, the Company believes that from a commercial point of view the need to discuss the appeal and the cancellation of the Commissioner's announcement has become superfluous. For further details see 9.18.17 below. For details regarding the framework agreement with Maman – Cargo and Handling Terminals Ltd. ("Maman") and the Commissioner's February 2010 announcement on the subject of the agreement's realization, see 9.12 below. (j) The Consumer Protection Law, 1981. Amendment No. 13 to the Consumer Protection Law was published on June 30, 2004. The amendment, in essence, revokes the exemption given in the past to services relating to air transport from the requirement to publicize a comprehensive price. According to the amendment, airlines are required to publicize a price that includes all taxes that apply to the service which are collected by them, and every other supplementary payment, which the consumer has no possibility from a practical standpoint to waive in the framework of the transaction. The amendment did not revoke the exemption that was given to airlines from the necessity to publicize a price in NIS. Under the law, the determining rate for payment is the sales rate for transfers and checks. The amendment also stipulates that for international cargo transport, regarding which an arrangement has been established between the air carrier and an international association of airlines, the requirement to state a price in NIS on the basis of the sale rate for transfers and checks will not apply. Additionally, the law stipulated that in the case of a "remote sale" of a flight ticket (including by mail, telephone, radio, television, electronic communication of any kind, facsimile, advertising in catalogs or notices, etc.), the consumer is permitted, subject to certain conditions, to give written notice of the cancellation of a transaction and to receive a refund of a certain percentage of the consideration paid, based on the circumstances of the transaction's cancellation. It should be noted that the Consumer Protection Law applies to relationships between a dealer (the Company) and a consumer, and not between a dealer (the Company) and another dealer, but to the best of the Company's knowledge, certain persons intend to attempt to change the legislation on this subject, whereby the law's provisions relating to cancellation of a remote transaction will also apply to relations between the Company and travel agents. On October 24, 2007, Amendment No. 21 of the Consumer Protection Law came into effect, enabling the courts to award punitive damages of up to NIS 10,000 without proving damage sustained, against a dealer violating a series of legal provisions, including the provision regarding the consumer's right to pay in Israeli currency at the exchange rate stipulated in the law, and the provision related to the consumer's right to cancel a remote sale transaction under certain conditions. According to the amendment, it is even possible to rule increased damages in the event of a serious, repeated or continuing violation. In February 2009 the Consumer Protection Law, which requires the inclusion, as part of the publication of marketing deals/discounts, of the minimum number of items offered under said deal or discount, came into effect. In accordance with the
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amendment, as a condition for the deal, a reasonable inventory must be held, taking the nature and scope of the deal into question, at least at the minimum level published. The 26th Amendment to the Consumer Protection Law was passed March 15 2010. Among other things, it expanded the consumer's right to cancel a remote sale under certain conditions, even after service has begun to be provided. However, on the matter of hospitality, travel, vacation of leisure services, the Amendment states that cancellation of a remote transaction shall be allowed under the conditions set in the Law only if the date of the transaction's cancellation does not fall within seven days, which are not days of rest, prior to the date on which the service was supposed to be given. The Amendment also stated that the consumer will have the right to cancel a transaction carried out as a result of material misrepresentation or abuse of distress, even if the provider wasn't the deceiving party, within a "reasonable period" of time from the transaction and the Minister of Industry has the authority to issue ordinances regarding minimum letter size, the ratio between them and the area containing the information and the manner in which they are written and presented, in a document containing information intended for the consumer, including in advertisements. On May 11 2009 a private bill was placed before the Knesset – the Consumer Protection Law Bill (Amendment – Transaction Cancellation and Refund), 2009, which in essence repeats a private bill filed in the previous Knesset that was not passed into law. The bill is intended to provide a consumer with a comprehensive right to cancel any transaction for any reason and receive a financial refund in return. A private bill was placed before the Knesset on December 14 2009, the Consumer Protection Bill (Amendment – Waiting Time Restriction for the Receipt of a Human Telephone Response), 2009, according to which anyone providing service for over 10,000 customer will be required to provide free telephone assistance service to customers, featuring a human response as well is instructions regarding maximum wait times and receipt of notices at a telephone call center. The bill, if it passes, may have an impact on the Company in terms of personnel and costs. The Company's estimates regarding the effect of legislative changes in the field of consumer protection are "Forward-Looking Information" as defined in the Securities Law. Therefore, the actual outcome of legislative changes may be materially different from the outcome estimated or implied from this information as a result of a large number of factors, including changes in the wording of the legislation, the incidence date and scope of legislative amendments and more. (k) Legislative provisions applicable to the Company as a “Mixed Company” (1) Until June 6, 2004, the Company was a “Government Corporation” being “privatized”, as defined in the Government Corporations Law. Starting from June 6, 2004, the Company is a “Mixed Company”, as defined in the Government Corporations Law, namely a company no longer a Government Corporation, for which half or less of the voting rights at its general meetings, or the right to appoint half or less than its directors, are held by the State. As a practical matter, as long as the State owns shares that provide it with voting rights in El Al, the Company will remain a “Mixed Company”. In June 2007, the State ceased being an "interested party" by virtue of its holdings in the Company, although as of a date close to the report date, the Company continues to hold 1.1% of the Company's share capital
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(in addition to the Special State Share in the Company). As a Mixed Company, the Company is subject to part of the provisions of the Government Corporations Law (as provided in Section 58 of the law, which applies various provisions of Government Corporations Law on a Mixed Company). (2) Chapter 2H of the Government Corporations Law authorizes the Prime Minister and Minister of Finance, with the consent of the Ministerial Committee for Privatization, in consultation with the minister responsible for the company’s affairs, to prescribe instructions by decree which are intended to protect the vital interests of the State in connection with a company under privatization. These provisions will apply for a specified period, or in general, they might also apply after the company’s privatization, as stipulated in the decree. The definition of vital interests includes various interests, which in part are similar to those which, in order to protect them, led to the issuance of a Special State Share, and also the avoidance of concentration in the economy, damage to the foreign interests of the State, etc. The position of the Government Corporations Authority is that Chapter 2H to the Government Corporations Law also applies to a Mixed Company. On November 17, 2004, a Government Corporations Decree (Declaration of Vital Interest to the State as to El Al Israel Airlines Ltd.), 2004 (hereafter in this paragraph: “the Decree”) was published under the aforementioned Section 2H. The Decree stipulates that the State has a vital interest with regards the Company, in order to make effective use of vital assets during a time of emergency or for security purposes, to assure the continuation of activities which are vital to the security of the State. The Decree also prescribes that the Company is required to employ, at all times, Israeli air crew members, and Israeli ground crews in Israel, properly qualified and licensed in order to operate the “vital assets” (minimal fleet of aircraft; see “Special State Share”), at sufficient numbers for continuous and simultaneous operation of all of the “vital assets” during a time of emergency or for security purposes. The Decree adds that it does not intend to make the Company subject to the provisions of Section 59.i of the Government Corporations Law (which deals with restrictions on the transfer of control), and that the Decree does not intend to detract from the provisions of the Special State Share. See Section 9.11.9 for details of additional restrictions to which the Company is subject under the auspices of the Special State Share. (l) Class Action Law, 2006 On March 12, 2006, the Class Action Law was published, which, inter alia, enables a motion to be filed for recognition of a suit against a dealer in connection with a matter between the dealer and a customer as a class action, whether or not they have engaged in a transaction. This provision broadens significantly the causes for filing class actions. The provision will be applicable as of the publication of the law also to motions for class action recognition that were filed before the publication of the law which have not been decided. According to the law, claimants in pending class actions may request to amend the claim and approve it as a class action (or the statement of appeal if the claim is in the stage of appeal) and adding additional causes or extending the existing causes, inter alia, as regards the deceit and abuse in the course of the contractual relations. See 9.14 below for details on class actions to which the company is a party.
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(m) Communications Law (Telecommunications and Broadcasts) (40th Amendment), 2008 The amendment to the Communications Law, known as the Spam Law, was passed June 1 2008. The amendment came into effect December 1 2008. The law applies to "advertising" (defined as a message disseminated commercially, the purpose of which is to encourage the purchase of a product or service or encourage the use of money in some other fashion) distributed via fax, email, short text message and autodial, and establishes the obligation for explicit advance consent from the recipient, in writing, including via electronic announcement or recorded conversation, including mailing by the aforementioned methods. In addition, the Amendment sets details that need to be included in the advertisement and other operational instructions. Violation of this law constitutes a criminal violation as well as a civil misdeed leading to the possibility of damages being awarded without proof of harm caused. 9.11.3
Business Licenses and Building Permits Some of the Company's activities require the obtaining of licenses under the Business Licenses Law, 1968. As of 2003, the Company has filed requests for business licenses for the activities requiring licenses. Within the framework of the arrangement of business licenses, the Company acts to regularize all of the buildings within its properties, including old buildings, for which the Company does not have buildings permits from the period that the Company was a government company. The Company acts in coordination with representatives of the Ministry of Interior, and hires consultants to assist in the process. In this framework, the Company acts according to an orderly Outline Plan to complete the process of obtaining the building permits and conforming them to the existing buildings, and to arrange the licenses for conducting the Company's business. In 2008 the Company received temporary business licenses for all businesses in its fields of activity. The Company is acting to complete the building permit receipt processes and thus permit the receipt of permanent business licenses. Up to March 2010, 16 permanent business licenses were received. The Company reached an agreement with the regional committee regarding the upholding of the terms of the disputed building permits and in 2010 the Company is acting to receive building permits for all structures listed in the request, which will allow them to receive permanent business licenses for the remainder of Company businesses for which temporary business license only were granted. Failure to receive permits and licenses as noted may place restrictions on the Company's activities pertaining to the buildings covered by the permits and licenses and affect the Company's activity. Non-receipt of the licenses and permits and the resultant implications are Forward-Looking Information as defined in the Securities Law, which includes Company estimates or projections as of the report date. Therefore, the actual outcome of not receiving the business licenses and building permits may be materially different from the outcome which is estimated or which might be deduced from this information as a result of a number of factors, including the actions of the licensing agencies, changes in legislative provisions and the results of legal proceedings.
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9.11.4
Commercial Operating License The Company has a commercial operating license (No. 1/88 dated August 2, 1988) granted by the Minister of Transportation under the Licensing Law. The following are the key points of the license: (1)
The license holder may not operate aircraft, except under an air operation license granted by the head of the Civil Aviation Authority (hereafter - “the CAA”) (See below as to the operational certificate).
(2) The license holder will meticulously follow the provisions of every law that applies to the operation of aircraft and all directives that have been or will be prescribed by the CAA. (3)
The license holder shall not operate the aircraft in a manner that might jeopardize national security, public safety and health and flight safety or in a manner that could endanger the public in any other way.
(4)
The license holder will notify the Minister of Transportation of any demand from a foreign country to submit a commercial document or commercial information that is found outside of the territorial authority of that nation and will not submit or provide such document or information without obtaining the Minister’s consent.
(5)
The license holder will ensure that at least 51% of the share capital of the license holder be owned by Israeli citizens and permanent Israeli residents and that at least two-thirds of its directors (board members), including the Chairman of the Board of Directors and the CEO, are Israeli citizens and permanent Israeli residents53.
(6)
The license holder will submit to the CAA, upon demand, reports, data or information concerning aircraft operation.
(7)
The holder of an operations license will not operate aircraft, unless insurance coverage has been purchased as provided in the license.
(8)
The license holder will submit for the approval of the CAA, at least 30 days before it becomes effective, a seasonal flight schedule with detail of aviation routes and frequency of flights on them. A change of a permanent nature in the timetable requires The CAA's prior approval.
(9)
In its scheduled flights under this license, the license holder will transport passengers and goods, to the extent possible, in accordance with the fares and travel and transport conditions prescribed by IATA, or pursuant to other rates, all to be approved in advance by the CAA.
(10) The license holder will transport passengers and goods for free or at cheaper rates if requested to do so by the CAA and according to the terms of the request. (11) The services that the license holder is permitted to offer and perform are stated in the appendix to the license. The appendix represents an integral part of the 53
On May 26, 2003, Section 8 of the commercial operating license was amended so that the percentage of holdings by Israeli citizens was reduced from 76% to 51%, so that foreign ownership could reach 49%. Pursuant to the Special State Share, as long as no other decision has been reached by the holder of the Special State Share or the Company’s Board of Directors, the restriction which will apply to the percentage of foreign holdings of the Company’s shares will conform to the Company's commercial operating license, as it will be at all times. The decision as above on changing the restriction applicable to foreign shareholdings will be reported in an Immediate Report.
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license, and the CAA is permitted to change or revoke it. The following are the key points of the appendix: (a)
Transporting passengers and goods on scheduled flights between Israel and points in foreign countries, and between the points themselves. It should be noted that part of the points are not utilized by the Company due to lack of economic feasibility.
(b)
Transporting passengers and goods on international charter flights in accordance with the official licensing regulations.
(c)
Special assignments subject to the CAA’s consent.
The Minister of Transportation is authorized to revoke the selection of the Company for a point(s) that are not utilized by the Company or under-utilized, and to authorize another Israeli carrier in its stead. See Section 9.11.7.2 below for details. (12) The license is valid as long as it has not been revoked or suspended by the Minister of Transportation or the CAA. 9.11.5 Operational Operator's License The Company has an operational license (no. 1/88) which is issued from time to time. A new license came into effect December 31 2010, issued by the CAA in accordance with ICAO standards. The license stipulates, inter alia, that the operator (El Al) is permitted to act as a “Designated Air Carrier” of large airplanes (under Section 13 of the Flight Regulations “Operation of Aircraft and Flight Rules”), and to operate international flights to regions defined in the operating specifications and continuing domestic commercial flights, conditional upon the operational restrictions and the conditions listed in the operational specifications that constitute part of the license. The aircraft recorded in the license have Israeli registration or foreign registration approved by the CAA, fully owned by the license holder, or have been placed at the disposal of the license holder, with the consent of the Civil Aviation Authority and the Minister of Transportation. The operator has an obligation to report every change in the list of aircraft that appears in the operational specifications, such as sale, purchase, lease to another operator and/or lease from any Israeli operator or foreign operator. The report will be submitted to the operational division and the air capability department at the CAA. For details regarding the amendment of the Company's operating license in relation to the domestic BGN-Eilat route see 7.1.10.(e) above. 9.11.6 International Regulatory Arrangements The principle of universality dominates civil aviation, whereby every country is sovereign over its own air space, and therefore, each commercial flight to or over any country requires that country's permission. The permission may be in the form of a bilateral agreement (as is customary for scheduled flights) or for a flight(s) on an ad-hoc basis. The international civil aviation industry operates in the context of a system of regulatory arrangements that affect most of the operational aspects of the airlines and, in particular, the subjects of flight rights, permissible capacity, fare setting, air carrier’s responsibility for
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damages (physical and property damage) and flight safety standards, security and noise. This system of arrangements is composed of international conventions, laws, regulations and administrative directives, and bilateral agreements. The existing basis for the international regulatory arrangement for international civil aviation is the Chicago Convention of 1944. The International Civil Aviation Organization (ICAO), a United Nations agency, was established in the wake of the Convention. In the framework and under the auspices of ICAO, recommended standards and procedures were prescribed for various areas of aviation activities. The rights to transport passengers and cargo between countries for compensation, permissible capacity and rate setting are organized via air transport agreements or aviation agreements (bilateral), which are based on reciprocity and provide fair and equal opportunities to airlines from both countries. 9.11.7 Air Transport Agreements and the Civil and International Aviation Policy of the State of Israel 9.11.7.1 Air Transport Agreements- General Most of the aviation rights by which the State of Israel permits a company to transport passengers and cargo on international routes are anchored in aviation agreements between Israel and foreign countries, and a minority (due to the absence of aviation agreements) in agreements between aviation authorities or commercial agreements between the Company and the air carrier of the other country, which require the approval of both countries. The principal elements of air transport agreements include, inter alia, the aviation rights granted, appointment of the Designated Carrier and permitted capacity. Until recently, in most aviation agreements between countries, each government appointed an air carrier as a “Designated Carrier” on its behalf that will operate the flights and utilize the traffic rights under the agreement. For details regarding changes in aviation agreements see 7.1.10(b). After the Designated Carrier is selected, it must obtain a permit from the aviation authority of the other country. In order to obtain a permit, the carrier must prove that the substantial ownership and effective control of the air carrier is held by the government of the country or by citizens of the country which selected it as Designated Carrier, and that the carrier meets all international flight safety standards. A new aviation agreement was signed between Israel and the European Union in 2008, which removed the control and limitation restriction from Designated Carriers, as specified in Sections 7.1.10 above and 9.11.7.3 below Most of the aviation agreements to which Israel is a party may be terminated or cancelled with prior notice of one year. After such notice, negotiations are generally held between the two governments in order to set an interim arrangement or new conditions before the expiration of the agreement. Several aviation agreements between Israel and a number of countries came into effect over the course of 2009. The various agreements allow the entry of additional Designated Carriers to existing and new destinations, as well as an increase in frequencies allowed the sides' airlines. Note that in 2009 talks were held between Israel and the EU on the matter of the global ("vertical") agreements, which are to replace the bilateral agreements between Israel and EU members and will not include limitations on the number of carriers,
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frequencies, capacity and types of aircraft. For further details see Section 7.1.10 above. 9.11.7.2 Designated Carrier In aviation agreements, each government grants its counterpart the right to select one of its air carriers as the Designated Carrier. The Designated Carrier is granted the right to carry passengers and cargo between the two countries. At times, the Designated Carrier also receives the right to operate scheduled flights from the second country to a third country (subject to an agreement with the third country). Until the second half of the 1990’s, the Company was the sole Israeli Designated Carrier for scheduled flights for the transport of passengers and cargo to and from Israel, with the exception of Sharm-a-Sheikh. The change in the Company's aforementioned exclusive status occurred after licenses were given additional Israeli carriers as Designated Carriers to several flight destinations, some in the Company’s place. As of immediately prior to the publication of this report, the other Israeli companies (Arkia and Israir) were appointed Designated Carriers to 31 international destinations and the Sun D'Or was appointed Designated Carrier to 8 destinations, as follows: Arkia - Sharm a-Sheikh, Eritrea, Amman, Copenhagen, Stockholm, Dublin, Tbilisi, Larnaca, Paris, Barcelona, Madrid, Kiev, Krasnodar, Düsseldorf, Munich, Baku as well as Eilat-Moscow and Eilat-St. Petersburg. Israir - Izmir, Ankara, Riga, Lisbon, Ljubljana, Nice, New York54, London, Rome, Milan, Berlin, Stuttgart as well as the Eilat-Moscow route. Sun D'Or – Antalya, Zagreb, Bratislava, Rostov, Sochi, Frankfort, Minsk and Düsseldorf. Regarding the implementation of the Open Skies policy, see Section 7.1.10 above. 9.11.7.3 Air Carrier Ownership and Control There is no uniform international arrangement regarding the percentage of the practical ownership and control over an air carrier that must be held by a state or its citizens. The bilateral air transport agreements to which Israel is a party include a provision according to which each of the contracting states maintains the right to suspend or to cancel the permit it gave the airline of the other state, if the “substantial ownership and effective control” are not held by the contracting state or the citizens of the contracting state. The agreements do not include the definitions of substantial ownership and effective control. The practice in the countries of the Western world is to receive the appointment of an airline as Designated Carrier as if it included an affidavit that the required 54
The 2006 appointment of Israir as Designated Carrier (in addition to the Company) to New York for the operation of scheduled flights was for a period of 24 months. The petition filed by the Company before the High Court of Justice against the appointment (as well as the additional petitions filed by the representatives of the Company's employees, including the employee corporation holding Company stock, and the K'nafaim company) were dismissed February 2006. Note that in September 2008 Israir announced that it would be discontinuing its flights to New York.
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demand for substantial ownership and effective control is complied with in full, and if it is found that the requirement no longer exists, the state will demand that the situation be rectified. As part of the liberalization policy being instituted by the Ministry of Transportation and implementation of the recommendations of the public committee for the examination of the "Open Skies" issue, a new aviation agreement was signed between Israel and the European Union in December 2008. The new agreement updates the sections of the bilateral aviation agreements between Israel and EU members referring to the ownership and control of Designated Carriers. The agreement will allow airlines the ownership and control of which is in one of the EU member states to operate regular flights from any other EU member, subject to the bilateral agreement. Thus, for example, Sky Europe, which is owned by Austrian citizens, may operate regular flights between Slovakia and Israel, subject to the aviation agreement between Israel and Slovakia. The commercial operating certificate given El Al specifies that at least 51% of the Company’s share capital must be held by Israeli residents and permanent residents of Israel, and that at least two thirds of the directors (Board members), including the Chairman of the Board of Directors and the CEO, are Israeli citizens and permanent Israeli residents (see Section 9.11.4 above – the Commercial Operating License). In addition, the “Special State Share”, which is anchored in the Company's articles, includes instructions regarding “maintaining the status of the Company as an Israeli company” and “restrictions on the ownership of shares by foreigners” (see Section 9.11.9 above). 9.11.7.4 Capacity Most of the aviation agreements to which Israel is a party (excluding the agreement between Israel and the United States and Great Britain) contain limitations on the maximum permissible capacity or frequency that each airline may offer on the agreed routes in order to assure equal opportunities to the air carriers of the two countries that are parties to the agreement. Additionally, a substantial part of the aviation transport agreements between Israel and other states also stipulate that the capacity must be based on the volume of the traffic between Israel and the other state with which the agreement was signed. Accordingly, the policies of the Ministry of Transportation in the past had been to restrict the flight capacity of the foreign airlines to and from Israel. At the beginning of 2006, and pursuant to the "Open Skies" policies led by the Israeli Ministries of Transport and Tourism, authorizations were granted to the foreign airlines that operate on the routes to and from Israel to add capacity and frequency. This trend of liberalization and "Open Skies" continued in he following years, and is expected to become more significant with the implementation of the Government's decision on "Open Skies" and the continued negotiations in preparation of signing of uniform global agreement between Israel and the EU member states. See 7.1.10 for further details. 9.11.7.5 Approval of the Minister of Transportation Government Resolution No. 161 prescribed that commercial agreements between Designated Carriers involving the restriction of competition require preapproval by the Minister of Transport. In 2009 the Minister of Transportation approved several code sharing agreements made by the Company as well as
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further agreements, as required by law. Regarding legislative changes pertaining to commercial agreements between airborne carriers and the type exemption orders in the area of business restriction as regards these agreements see Section 9.11.2(i). 9.11.7.6 Flight Rates The rates for flights on international routes are determined within the framework of the IATA, the international association of scheduled airlines. These fares relate to the interline feature which allow the passenger to purchase a flight ticket from one company and to utilize it in a flight or flights for other companies (within the framework of interline agreements). In addition to the fares within the framework of IATA, which are supervised by aviation authorities, El Al is permitted to set special rates on a unilateral basis. The Israeli Ministry of Transportation does not generally intervene in setting rates advertised by the Group unilaterally, provided that the level of these rates is not higher than IATA fares. The IATA is evaluating the companies' fares, and accordingly, publishes flex fares that serve as agreed interline fares. Under the aviation agreement between Israel and the United States, the carriers are free to set fares, and only if the two governments oppose a proposed rate (a method known as “double disapproval”) due to its being abnormal (exaggerated or within the boundaries of "dumping”), the new rate will not be approved and it may not be offered to the public. Despite the flex fares set by the IATA, most flight tickets and cargo capacity are sold at prices below those that were agreed upon and approved or at conditions different from those prescribed for the various fares. The Company behaves in accordance with general industry practices, while conforming its policies to market conditions and to the actions of the competitors. A substantial part of the Company’s revenues is derived from sales under these conditions. During recent years, a broader variety of flight ticket fares has been created. In all of the aircraft service classes (first, business and economy), there are different types of “reservation classes” (or classes of price). Varied demand and different conditions exist for each “reservation class” during different periods of the year. Charter flight fares are set in a different manner than those for scheduled flights. Every organizer is committed to pay the air carrier for the capacity (number of seats) he has chartered and, on the other hand, he himself sets the price per seat, generally a package price that includes seats and ground arrangements. Organizers requesting authorization to operate a flight or series of charter flights must state the price offered the public and obtain approval to carry out the flights and their prices from the aviation authorities/administrations of the relevant countries. Airlines, including the Company, collect fuel surcharges, which are updated from time to time in accordance with increases and decreases in jet fuel prices. In addition, the airlines charge a security surcharge as part of the flight ticket price.
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9.11.8 Israel’s International Civil Aviation Policy Over the years, the Government of Israel and ministerial committees (privatization or social and economic) have approved a series of decisions pertaining to Israel’s international civil aviation policies. Resolution 323 HC/14 of the Ministerial Committee for Social and Economic Matters in the matter of "Aviation Policies of the State of Israel on Scheduled Routes" was passed in May 2003, as detailed in 7.1.2.(b) above. A resolution was passed "Encouragement of Competition in Civil Aviation to and from Israel" in August 2005, following which the Aviation Services Law was amended (see 9.11.2 B above), and Resolution 441 on the matter of encouragement of competition in civil aviation to and from Israel was passed September 2006, and the decision made by the Minister of Transportation to establish a public committee to examine "Open Skies" policy (see Section 7.1.10 above). In recent years, the Ministry of Transportation has begun implementing a policy of increased liberalization in the aviation industry, the "Open Skies" policy, with the objective of encouraging and increasing tourist traffic to Israel by increasing competition between airlines. As provided above, on January 27, 2008, Government Resolution No. 3024 was adopted, on the matter of the State's participation in the security expenses of Israeli airlines, including an amendment of Government Resolution No. 353 (HC/14) on the matter of the State of Israel's policy on scheduled routes. On August 24 2008 Government Resolution 4032 was passed and on February 1 2009 Government Decision 4462 was passed, both of which are also relevant to the issue. See Sections 7.1.2 and 7.1.10 above for further details. 9.11.9 The Special State Share 9.11.9.1 Close to the publication of the 2003 Prospectus, the Company issued a “Special State Share” to the State. The rights granted to the holder of the Special Share are listed in the Company’s Articles of Association, which also detail the vital interests of the State in the Company, which must be protected by means of the Special State Share. These vital interests are:
•
Preserving the Company as an Israeli company so that it will remain subject to Israeli law, including legislation that allows equipment to be mobilized for security purposes and legislation for times of crisis, and so that the conditions needed to maintain its operating license and traffic rights should be maintained.
•
Safeguarding the possibility of ensuring that the operating capability and ability to fly passengers and cargo by the Company will not fall below the capacity detailed in the Company’s Articles of Association, in order to provide the State with effective use of vital assets in times of emergency or for security purposes, as will be determined from time to time by those authorized to do so, all as detailed in the Company’s Articles of Association.
•
Preventing parties hostile to the State of Israel or persons who could cause damage to the vital interests of the State or to the foreign or security interests of the State or to the aviation ties of Israel with foreign nations, or persons that are found in and/or likely to be found in substantial conflict of interest which could cause damage in one of the areas detailed above, from
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being an interested party in the Company from influencing its management in any other way.
•
Fulfilling the security directives and arrangements that apply, or that will apply as a result of Government resolutions or under any law, to the area of security of flights, passengers, baggage, cargo and mail, in Israel and abroad, including in relation to the Company’s operations abroad and to the cooperation needed from local authorities abroad in these areas; in the area of security classification of employees and suppliers of services to the Company; and in the area of security over classified data and protection of security information.
•
The holder of the Special State Share is the State of Israel via a minister or ministers, all as stipulated by the Government or a ministerial committee, from time to time or for a specific purpose.
9.11.9.2 In order to protect these vital interests, instructions were prescribed for the Special State Share as to the following matters:
•
Instructions for the purpose of preserving the Company as an Israeli company, including restrictions as to the citizenship and security clearance of Company executives;
•
Instructions on the matter of compliance with security rules and arrangements;
•
Instructions on the matter of the Company’s rights to security related data and classified information;
•
Instructions on the matter of Company discussions on security matters;
•
Instructions on the matter of observing minimal flight capacity55 - the
55
(a) Transfer of vital assets will be invalid as regards the Company, shareholders, and any third party without the prior written consent of the holder of the Special State Share if, as a result, the usable, fit, and ready for- immediate-operation fleet of aircraft will be reduced (including due to any law provision) or the operational capability and flight ability of the Company will be reduced (including due to provision of any law) below what is itemized in one of the following sub sections: (1) At least 4 cargo aircraft as to which the minimal cargo transport capability from the United States to Israel is 320 tons daily; (2) At least 3 broad hulled passenger aircraft as to which the overall minimal passenger transport capability from the United States to Israel is 1,000 passengers daily; (3) At least 6 medium and small aircraft as to which the overall minimal passenger transport capability from Europe to Israel is 2,000 passengers daily. (b) Should there be a significant change in the relevant circumstances, the holder of the Special State Share will be permitted, with the Government’s authorization, to decide to increase the number of vital assets and/or to change their quantity and/or the composition of the assets on a permanent basis or for a specific matter, all for up to half of the number of aircraft owned by the Company at that time. This decision will not be made before the Company is given a fair opportunity to express its position to the Government - the total of the vital assets after increasing the number of vital assets according to this paragraph is limited to up to half of the number of aircraft owned by the Company at the time of the decision. A change in the composition of the vital assets will be made in the framework of the composition of the current fleet of aircraft owned by the Company at the time of the decision. The Company will not be required to acquire new aircraft under this subparagraph (b); (c) Despite what appears in sub-paragraph (a) above: (1) An aircraft leased by the Company from an Israeli corporation, which is lawfully incorporated and registered in Israel, will be deemed owned by the Company, as long as that aircraft is owned by such corporation and Israeli law specifically applies to the lease agreement regarding the terms of lease and the aircraft.
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Company is not permitted to carry out certain transactions relating to its aircraft without consent of the holder of the Special State Share if, as the result of such transactions, it might reduce the Company's flight capacity below the level that was set by the Special State Share; in this regard note that in December 2008 the Company received the consent of the holder of the Special State Share for the decommissioning of 2 cargo and in July 2009 the Company issued a request to decommission the remaining two cargo aircraft as well as lease a 747-400 cargo plane from a non-Israeli corporation. For details see 8.1.2 above.
•
Instructions on the matter of reviewing Company documents and data;
•
The acquisition of influence or status in the Company requires the State's consent - in accordance with the Company's Articles of Association, transactions involving the Company’s shares at a certain scope will not grant any right that is derived from holding and/or from purchasing shares in the Company without the prior written consent of the holder of the Special State Share (the State through the ministers designated by the Government)56. The Articles of Association stipulate a detailed arrangement
(2) The holder of the Special State Share will be permitted, at the request of the Company, to approve the lease of an aircraft by the Company from a non-Israeli entity, as long as the State's vital interests are protected and the agreement contains the proper provision which grants the State the authority to use the aircraft, including mobilizing it at any time under Israeli law, all to the satisfaction of the holder of the Special State Share. (d) As long as the provisions of sub-paragraph (a) above are not complied with, the Company will not purchase and/or own shares or means of control, at a rate providing it with control, in corporations which own, directly or indirectly, including by subsidiaries, aircraft or auxiliary equipment, other than with the consent of the holder of the Special State Share. (e) Without detracting from the above, should a vital asset be transferred in contravention of this section, and the sale cannot be revoked and/or the situation cannot be restored to what it was within a reasonable time, the Company will be obliged to immediately purchase a substitute vital asset and to cover the expenses incurred by the State due to the temporary absence of the vital asset. (f) In a case in which the holder of the Special State Share refuses the Company’s request to transfer a vital asset, an arrangement will apply to indemnify the Company for the damages it incurred, principally, that the State will indemnify the Company in monthly payments to the extent of the leasing fees which the Company would have received, had it leased the vital asset when the monthly indemnification began, in the open market to a willing lessee, the transfer of which was refused, as will ultimately be determined by the appraiser(s) appointed by the State and the Company. (g) Should the period in which the holder of the Special State Share refuses the Company’s request to transfer the vital asset exceeds 6 months, or in the State's judgment, at an earlier date, the State will purchase the hindered asset at the price which the Company would have received had it sold the hindered asset to a willing purchaser at the time of the purchase, as will ultimately be determined by the appraiser(s) appointed by the State and the Company. (h) Without detracting from the above, should the holder of a specific fixed lien on an aircraft or auxiliary equipment, including the loading equipment necessary to protect flight operation capability, wish to realize it (subject to the approval of the lien under the terms which were stipulated), the Company and the lien holder will so notify the holder of the Special State Share at least 45 days in advance, and the State will be permitted, at its sole judgment, and after giving prior notice of one week of its intention to the Company and the holder of the lien, to sustain the charge against which the asset had been pledged as collateral. If the State sustains the charge in accordance with the contents of this section, it will be permitted, if the holder of the lien had the right to return to the Company and receive payment from it, including expenses that were connected with sustaining the charge, and the lien will serve it to secure this right. The contents of this section will be included, as an obligation of the parties to the State, in every agreement for the lien on an aircraft or auxiliary equipment, including the loading equipment that is necessary to protect flight operation capability, which will be entered into after the Special State Share was issued, as a condition of the lien agreement with the Company, its shareholders and any third party. 56 (a) Holdings of 5% or more of the issued share capital of the Company; (b) holdings of 15% of more of the Company's issued share capital (also if agreement had been received in the past for an holding percentage below 15%); (c) holdings of 25% or more of the Company's issued share capital (also if agreement had been received in the past for a holdings percentage below 25%);(d) holdings of 40% or more of the Company's issued share capital (also if agreement had been received in the past for a holdings percentage below 40%); (e) holdings that grant “control” of the Company even if agreement had been received in the past as to the holdings percentage (though not agreement as to “control”). For this purpose, control is defined in accordance with the Securities Law. In addition, the largest shareholder, at any time, will be
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on the subject of the manner of submitting the request for obtaining the consent to own shares in the Company, in the event such consent is necessary as above.
•
Instructions on the matter of obtaining approval to vote at the General Meeting - the right to vote at the General Meeting requires the approval of the Company. Approval to vote at the General Meeting will not be given when circumstances exist that require the consent of the holder of the Special State Share, and such has not been granted. The articles of association also prescribe special instructions in cases when there is reasonable concern that the ownership of the Company’s shares by foreigners might cause damage to the Company's flight rights or to its operating license.
9.11.9.3 Every change, including an amendment or cancellation, in the provisions of the Memorandum of Association and Articles of Association (incorporation) of the Company which relate to the rights granted and/or ascribed to the Special State Share and to its holder, will be ineffective as regards the Company, its shareholders and any third party, without the prior written consent of the holder of the Special State Share. 9.11.10 Regulation In June 2009 the Ministry of Transportation published the Aviation Bill, 2009, which was replaced by the Draft Aviation Bill, 2010. If passed, this draft is expected to replace the Aviation Law, 1927 and most of the Sections of the King's Decree on Aviation in the Colonies (Legalities), 1937. The draft bill includes reference to various issues civil aviation was requested to include in the legislation, this pursuant to the inspection the U.S. Federal Aviation Administration (FAA) made of the Civil Aviation Administration in order to meet the international standards dictated by the ICAO. Recently, the CAA examined the compliance of the subsidiary Sun D'Or with the requirements of the Aviation Law and resulting regulation. The CAA made several requirements. Including a requirement that several executives serve exclusively as fulltime Sun D'Or employees and not be loaned by the Company. Sun D'Or complied with the CAA requests and starting February 1 2010 the Sun D'Or operational operating license was updated accordingly. The Company's maintenance system has been certified by the Israeli Standards Institute under quality standard ISO 9001/2000. In addition, the Company's maintenance system has been certified as an inspection institute, approved by the Civil Aviation Authority in Israel, the U.S. Federal Aviation Agency (FAA) and the certifying authority of the European Union's association (EASA). To be clear, the EASA certification is for the Company's line maintenance array. deemed the controlling interest; (f) holdings or acquisition as a result of which “foreigners” will own 24% of the Company's issued share capital, or a higher proportion, which might, in the opinion of the State or in the opinion of the Company’s Board of Directors, cause damage to the Company’s flight rights and/or to its operating license, which will be and/or has been given by the State, in its sole judgment (the commercial operating license given to the Company stipulates that at least 51% of the Company’s share capital must be held by Israeli citizens and permanent Israeli residents). In any event, the holdings by foreigners of the Company's shares exceeding 49% of the Company’s issued share capital is a proportion which might damage the Company’s flight rights; (g) every security and/or pledge transaction of the Company’s shares, which, following its realization or invoking of underlying rights, the security holder or the pledge holder is likely to own shares out of the Company’s share capital in the proportions mentioned in sub paragraphs (a) to (f).
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An IOSA (IATA Operational Safety Audit) audit was conducted in the Company in 2008, with the Company's complying with all requirements needed to receive certification and in January 2009 the Company received IOSA certification. This certification is international certification in the field of operations, safety and quality at airlines and is a precondition of code sharing agreements. In addition, starting 2008, the certification constitutes a condition of IATA membership. The Company is the first Israeli airline to pass the IOSA audit successfully. The receipt of this certification places the Company in the forefront of world airlines as far as flight safety is concerned. 9.11.11 Quality Control El Al's maintenance system is monitored by an internal quality control system that operates according to the manufacturer’s specifications and a maintenance program approved by the Civil Aviation Authority. 9.11.12 Security Arrangements The civil aviation industry, particularly on routes to and from Israel, could be targeted by various parties, particularly terror organizations. The Company takes extraordinary security measures, under the guidance of the governmental body responsible for this area. Until the early 1980s, the State had covered all of the Company's direct and indirect security costs. Over the years, the State has instituted a policy of reducing the rate of its participation in security expenses. In accordance with a decision by the Government of Israel, the Company participates in security expenses at a rate of 50%, since January 1, 2003. During 2002, the rate of participation was between 30% and 34.14%, while in 2001, it was between 25% and 30%. As detailed above, on January 27, 2008, the Government passed Resolution No. 3024, which prescribes the rate of the State's participation in the security expenses of Israeli airlines at 80% of the total direct expenses for the operation of existing and future international routes, in an attempt to enable these companies to content, to the extent possible, with fair and equal competition opposite foreign airlines, keeping in mind the importance of liberalizing the civil aviation industry, while recognizing the need for the existence of strong Israeli aviation. The decision revokes Government Resolution No. 2325 dated July 30 2002 (which set a participation rate of 80%). See Section 7.1.2 above for further information on the Government's January 27 2008 resolution. As described in Section 7.1.2, a petition to the High Court of Justice was filed by the Company following this decision. In addition, Government Resolution no. 4032 was passed on August 24 2008, following which the petition was amended. Government Resolution no. 4462 was subsequently passed on February 1 2009. For further details see Section 7.1.2 above. On May 13 2009 the Company filed an amended petition according to which the Company asked that the court issue an order to the respondents to provide an explanation as to why Resolution 3024 should not be implemented verbatim and in full for the period between January 1 2008 and December 31 2008, so that Section 2 of resolution 4032 does not apply to this period, and alternately, which Resolution 3024 should not be implemented verbatim and in full up to the date on which the decision to dismiss was reached, meaning
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up to August 24 2008, an amendment that is necessary, inter alia, in order to limit the dispute and the discussion to a specific period of time (and not in relation to other issues deriving from resolution 4032 and Resolution 4462, regarding which the Company reserves its rights). The increase in the State's participation in the security costs of Israeli airlines, including the Company, was included as part of the approval of the 2009 State Budget, at a rate of 60%, this in accordance with Government Resolution 4462 dated February 1 2009. The following details the direct costs of security of the passengers, aircraft and employees of the Group (El Al and Sun D'Or), divided between the portion financed by the Group and the portion financed by the State: State Financing
The Group's Portion
Total
(Thousands of Dollars) 2009
69,430
38,398
107,828
2008
52,401
43,603
96,004
2007
43,809
42,224
86,033
Note that in accordance with the Government Resolution regarding the existence of regular aviation relations with neighboring countries (Egypt and Jordan), higher participation rates of the State of Israel were set for these rights, in order to maintain flights on these routes. The Company also has indirect security costs that are caused, inter alia, by flying security personnel in seats of paying passengers. Beginning from October 2001, the Company has been allowed to collect a supplement for insurance and security of $8 per flight leg. In January 2009 the Israeli Government approved a project for the installation of electrooptic protection systems in passenger aircraft. The meaning of the government decision is that the Israeli airlines, including the Company, will be required to participate in the project (including installation in Company aircraft) as well as participate in the financing of the costs involved in maintaining and renewing the system. Financing will apparently be provided in the framework of other security expenses. In addition, the Company provides security services to Israeli airlines, in return for a refund of the Company's aforementioned costs. Accounting for these services was arranged by use of a "payroll price list" (dated 1999) published by the Ministry of Finance. In the second quarter of 2008, the Ministry of Finance published a new security price list for services granted by the Company to Israeli airlines on passenger flights. The Company has requirements pertaining to the liability and responsibility of the State and the Israeli airlines in the area of security as well as de4mands for the compensation in suits with these factors. The Company is acting in conjunction with the Ministry of Finance, the Ministry of Transportation and Road Safety, the General Security Services and the Israeli Airlines to meet these requirements. At the same time, discussions have been held at the Ministry of Transportation on the matter of the flight security mechanism, in which it was agreed that the general manager of the Ministry of Transportation would recommend to the Minister of Transportation to establish an interdepartmental committee to study and recommend a preferred alternative for a new
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mechanism for the management of Israeli aviation security. The information provided above regarding the manner in which security services are provided, the scope of the State's participation in the Company's security expenses and the actual financing of existing and new expenses constitutes Forward-Looking Information, as defined in the Securities Law. This information is supported, inter alia, by the Company's assessments and is based on the realization of existing decisions. The actual change in the Company's performance could be significantly different from the forecasts, due to many factors, including regulatory changes and enforcement of legislative regulation by the State authorities. 9.11.13 Operations during Times of Emergency and for Vital Purposes Under existing law, during times of emergency, the Israeli airlines, including the Company, may be operated for purposes of national defense or public security or maintaining supplies or vital services. In addition, arrangements exist with the Company as to flights for the security of the State, or at times of emergency, as well as flights for other extraordinary purposes, including the consideration to be paid for them on a commercial basis. The Law for the Registration and Mobilization of Equipment for the Israel Defense Forces, 1987, empowers the Minister of Defense, if he is convinced that the defense of the State so requires, to declare by decree the need to mobilize equipment (including aircraft). The law relates to equipment owned by the Company during times of emergency. The law obligates the State to pay usage fees for the equipment that was mobilized, and, if the equipment was damaged during the period of emergency compensation for the damages. The Law for Work Services during Times of Crisis, 1967, empowers the Minister of Labor to certify an enterprise as “a vital enterprise”, and after such certification, to mobilize all of its workers for vital work service. The Company has been certified a “vital enterprise”. The approval is renewed from time to time at the Company’s request. The current certification is effective through December 31, 2009. The Law for Supervision of Goods and Services, 1957, grants the minister so empowered by the Government, the authority to issue a “personal decree” or a “general decree” for the performance, inter alia, of a “vital action” for the defense of the State, for the security of the public, to maintain regular supplies or services. This action includes, among other things, the obligation to operate an enterprise or to perform any regulated service. 9.11.14 Public Commission for Evaluating Civil Aviation Safety in Israel During 2007, a public commission was appointed to evaluate civil aviation safety in Israel, headed by Brigadier General (ret.) Amos Lapidot. In December 2007, a detailed report was submitted to the Minister of Transportation and Road Safety, indicating a series of serious flight safety deficiencies, including the need for improved technology in the command and control systems at BGN, a deficient ability by the Civil Authority in Israel, and a shortage of manpower, the need to update legislation in the field of aviation and the need to train and monitor air traffic controllers. On December 19 2008 the U.S. FAA announced that it would be lowering the State of Israel's aviation safety rating to Category 2 (for further details see Section 9.11.2.(h) above).
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9.12 Material agreements •
On February 3 2010 the Company signed a framework agreement with Maman Cargo Terminals and Handling Ltd. ("Maman"), which operates a cargo terminal at Ben Gurion Airport, regarding the receipt of terminal services from Maman. According to the agreement, Maman shall grant the Company, for the duration of the agreement, discounts on regular rates prior to the signing of the agreement pertaining to terminal services. The agreement shall be in effect (retroactively) from the beginning of 2009 to the end of 2010, with El Al retaining the right to extend the agreement for three additional one-year periods followed by an additional threemonth agreement. El Al's right to extend the agreement by any of the aforementioned extension periods is subject to the fact that in the year preceding the extension the amount of El Al cargo treated at the Maman terminal did not drop below a certain threshold. At the end of all of the extension periods, insomuch as Maman's current license to operate the terminal is extended, El Al shall be entitled to extend the agreement by an additional four years. According to the agreement, subject to the requisite approvals, Maman shall allocate shares to El Al to the amount of 15% of Maman's stock capital, with half of them allocated prior to signing the agreement, a quarter at the beginning of 2011 (subject to the first extension of the agreement) and an additional quarter at the beginning of 2012 (subject to the second extension of the agreement). El Al shall be precluded from passing on shares allocated in the above manner for a period of 15 months from allocation. In addition, El Al shall be granted options to purchase Maman shares at a rate constituting 10% of Maman's issued capital, exercisable within six years of issue at an exercise price of 22.33 million NIS (in the event of exercise within first three years after granting) or alternately 23.625 million NIS (in the event of subsequent exercise). In addition, it was agreed that the parties would strive to tighten their business cooperation outside the area of cargo handling in Israel. On February 10 2010 Maman announced that it would be convening its General Meeting for the purpose of discussing increased capital and granting shares and options to the Company in accordance with the agreement. On February 18 2010 the Company's offices received a letter from the Restraint of Trade Authority addressed to the CEOs of the Company and of Maman ("the Letter"). In its letter, the Restraint of Trade Authority informed them that the arrangement between the parties according to which Maman would grant the Company rate discounts and issue options and shares may seemingly constitute a binding arrangement as per Section 2 of the Restraint of Trade Law ("the Law") and may also constitute a misuse of stature by the owner of a monopoly as per Section 29a of the Law and therefore the Restraint of Trade Authority suggested that at this stage the parties avoid acting in accordance with the agreement until the legalities of the arrangement are fully resolved. On March 14 2010 Maman announced that it would be postponing the date of its General Meeting as detailed above to May 4 2010. The Company and Maman are holding talks to decide upon further courses of action. The information provided above regarding the realization of the agreement with Maman and the resulting benefits granted the Company is Forward-Looking Information, as defined in the Securities Law. This information is supported, inter alia, by the Company's assessments regarding the risks involved in the
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failure of the agreement to become realized, in whole or in part. Therefore the actual change as influenced by the agreement on the Company's performance could be significantly different from forecasts, due to many factors, including regulatory changes and risk factors denoted in Section 9.18. •
On November 26 2009 the Company signed a wet lease agreement with TAT Nigeria Ltd., to fly pilgrims from Nigeria to Israel and back. The flights were conducted between November 2009 and February 2010.
•
On January 1 2010 a clearing agreement was signed with American Express Travel Related Services, Inc. for a 5-year period (retroactive from January 2009). The agreement provides a clearing solution for online sales as well as for sales conducted directly in Company branches in Israel and around the world.
In addition, the Company is party to material agreements with regard to employees and their rights (see Section 9.4 above), agreements for the lease of real estate (see Section 9.1.1 above), agreements for the lease and financing of aircraft (see Sections 7.11 and 8.10 above), loan agreements for a designated purpose (see Section 9.8.5 above), various agreements with airlines (see Sections 7.2, 9.11.7 and 9.13 above), and insurance agreements (see Section 9.2 above). The Company also has an obligation to indemnify Company executives. For further details see Section 29a of Chapter D (Further Details on the Corporation's Business).
9.13 Cooperation Agreements The Company is party to agreements with other airlines (interline agreements) which permit passengers on scheduled flights, subject to certain restrictions, to use flight tickets issued by one airline for the services of another airline. In addition, the Company is party to code-sharing agreements, which permit an air carrier to market flights of another air carrier, as if they were its own flights. See Sections 7.2 and 7.4 above for details. For legislative changes that could have a material effect on the Company's ability to enter into "code-share" agreements see Section 9.11.2(i). For details on the code sharing agreement signed with Czech Airlines, with Air China and with Turkish airline Atlas Jet – see 7.4 above. Additionally, the Company has various operational agreements with various airlines, which include, inter alia, technical operations arrangements, leasing arrangements, aircraft maintenance and spare part agreements, mutual assistance in emergencies, the supply of aviation equipment and more. The Company also has arrangements with airlines regarding lounges, regarding frequent flyer collaborations, accounting for connecting flights, on matters of reservations and transport agreements (passengers or cargo).
9.14 Legal Proceedings As of December 31 2009, $139 million in legal claims have been filed against the Company, for which the Company has registered a $2.6 million provision in its Financial Statements, upon the advice of the Company's legal counsel Several claims have been filed without quantified monetary sums. The sum of the provision in the Financial Statements includes provisions for non-quantified claims, as estimated by Company management. The following are the most significant pending claims in which the Company and/or its subsidiaries are involved: 9.14.1
In October 2005, a claim was filed in the Supreme Court of Ontario, Canada
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against the Company and additional defendants by a former employee of the Company for alleged sexual harassment and sexual assault. The amount of the claim was approximately $2.2 million Canadian (approximately $2.1 million U.S.). According to International Financial Reporting Standards (IFRS) implemented by the Company since January 1 2008, a provision for this claim has been made in the Financial Statements. For details see Note 27.d.c.(2) to the Financial Statements. 9.14.2
In June 2006, a claim was filed against the Company and the State of Israel Ministry of Finance in the Tel-Aviv District Labor Tribunal, by 94 claimants, who had been employed by the Company and who took early retirement between the years 2001-2003. The claimants have appealed to amend their retirement agreements in a manner in which they state that the retiree will receive the early pension stipend, including fringe benefits, until the legal retirement age, instead of until the age of 65. Alternately, the claimants appealed to revoke the retirement agreements. The claimants quantified the claim at NIS 18,223,584 (some $4.8 million). In January 2009 the court ordered that this claim be consolidated with two additional claims. On January 6 2009 it was decided that the plaintiffs would file their position on the reduction of costs. The Company made a provision for this claim in its Financial Statements, based on the advice of legal counsel. For further details see Note 27.d.c.(3) to the Financial Statements.
9.14.3
On December 20, 2006, the Company received a letter from the European Competition Commission ("the Commission") at its head office, which contained a request for information in connection with an investigation being conducted by the Commission in connection with activities that, allegedly, cause damage to competition in the sector of air transport services for cargo. The letter stated that the Commission has information regarding extensive contacts that took place between airlines and other entities with regard to various price increments and other matters such as cargo transport rates. In the context of the letter, the Company was requested to transmit data and documentation regarding the Company and its cargo activities, starting 1995. The Company has provided its response as requested by the Directorate's letter, while conducting an internal review of its cargo pricing practices. According to publications by the Directorate and by several foreign companies, in December 2007 the Directorate sent a "statement of objection" to several airlines with regard to the aforementioned inquiry, including claims of alleged breach of competitive statutes of the European Union (this is an administrative procedure in which the Directorate reserves the right to issue significant financial fines). The Company has not received the aforementioned letter of claims, and to the best of its knowledge it is not among the companies to which the letter of claims was sent. At this stage, the Company is unable to evaluate the outcome of the investigation of the Commission or to estimate the possible financial effect of the investigation on the Company, if any.
9.14.6
On February 28, 2007, the Company received a statement of claim filed at the United States District Court for the Eastern District of New York in the matter of the rates for air cargo transport services. The Company was included as a defendant in the statement of claim, along with 38 other airlines, which alleged that the defendants were partners in a conspiracy to fix prices for air cargo transport services, beginning in 2000, while violating competition and other laws in Europe and the United States. The claim was filed in the name of entities that purchase air transport services, directly and indirectly and it also included a motion for class
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action recognition. The claim includes a request for damages in an unspecified amount as well as additional remedies. The Company joined a mutual defense team with the other airlines being sued, in the framework of which several preliminary motions were filed with the Court, including a motion to dismiss the claim or parts of it. In view of the preliminary nature of the process and based on legal counsel received by the Company, the Company is unable to assess the possible outcome or the possible financial effect of the proceeding on the Company, and no provision has been made in the Financial Statements. 9.14.7
In January 2007, a claim was filed against the Company in the Jerusalem District Court, along with a motion for class action recognition, in the amount of about NIS 483.4 million (approximately $ 128.1 million). The plaintiffs allege that the collection of a security levy in the amount of $8 per flight leg from passengers on flights not carried out by the Company itself, but by other airlines, in the framework of codesharing agreements with the Company, represents consumer misrepresentation, breach of the agreement with him, absence of good faith, and unlawful gain, this as on these flights, the plaintiffs allege, security or protection services were not provided identical in level and quality to the security services provided by the Company. The plaintiffs demand that the Company pay $8 to each of these passengers as well as NIS 500 for pain and suffering. As agreed by the parties and as approved by the Court, an amended request has been filed to confirm the claim as a class action. The Company has filed its response and on August 19 2009 the District Court rejected the request in question and ruled that the plaintiffs must pay the Company's expenses. On October 22 2009 an appeal was filed before the Supreme Court. In the opinion of Company management, based on the advice of legal counsel, it is unlikely that the Company will be found liable in this claim. No provision has been made for this claim in the Financial Statements. For details see Note 27.d.a.(2) to the Financial Statements.
9.14.8
On August 24 2008, the South Korea Fair Trade Commission (hereinafter: "the Korean Commission") presented the Company with a request for information pertaining to an investigation the Korean Commission is conducting regarding possible violations of Korean antitrust competition rules in the field of air cargo shipping for the period starting 1999. The Company received several requests from the Korean Authority for complementary information and has provided its responses to the requests in question. To the best of the Company's knowledge, the Korean Commission is investigating a series of airlines. According to publications of several foreign airlines, in October 2009, the Korean antitrust authority sent out an "inspection report" to several airlines pertaining to the investigation in question containing claims on the matter of alleged violations of Korean antitrust laws. The Company has not received the inspection report in question and to the best of its knowledge is not numbered among the companies to which the inspection report was addressed. The Company cannot at this stage estimate the results of the Korean Commission's investigation or assess the investigation's possible financial impact on the Company, if any.
9.14.9
On May 7 2009, the Company received a copy of a motion to approve the filing of a derivative claim ("the Motion") and of the claim itself, which were filed before the Tel Aviv-Jaffa District Court. The filing party, who claims to hold 4,500 Company shares (which constitute 0.001% of the Company's equity) asks that the Court approve the claim as a derivative claim against a number of executives serving at the Company in 2003 and who no longer serve at the Company ("the Claim"),
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based on the allegation that these executives allegedly violated their due diligence obligations towards the Company by causing the Company to be involved in fixing one price component, or more, in the field of cargo transport to and from the U.S. in the period in question and thus, they claim, they caused damage to the Company of at least $15.7 million U.S., this pursuant to the settlement between the Company and the U.S. Justice Department the Company reported on January 22 2009. The claim was preceded by a motion to file a derivative claim, which was rejected by the Company after the Company's Board of Directors decided that it would not be in the Company's best interests to file such a claim against Former Company executives. The Company has filed its response to the motion. The following are material claims in which the Company and/or the subsidiaries were defendants, and which concluded during 2009 or by a date near to the approval of the report: 9.14.10 On April 23, 2009 a claim was filed against the Company that a suit be recognized as a class action suit with the claim that the Company had failed to meet the requirements of Revision 40 to the Communications Law (Telecommunications and Broadcasts) 2008, known as the Spam Law, which forbids the transmission of advertising via email, fax, text message or telephone without the recipient's consent. The sum of the personal claim is 150 NIS, and the sum of the class action the approval of which was requested, as estimated by the plaintiff, was 22.5 million NIS. The plaintiff estimated the group at 150,000 people. The group was defined by the plaintiff as the Company's frequent flyer club to whom the Company sent, allegedly, text messages in violation of the law. In August 2009 the plaintiff announced that he would be withdrawing from the suit and requested that his personal claim against the Company be dismissed. In September 2009 the court approved this motion. 9.14.11 In December 2008 a request was filed to the New York State Supreme Court to confirm a suit as a class action against the Company and against a U.S. bank and U.S. credit card company. The claim states that the claimants were charged international conversion fees on their credit cards for the purchase of airline tickets of the Company in the U.S. using the credit cards of the credit card company sued. In January 2010 the parties signed a settlement agreement. 9.14.12 On May 29, 2008, the Company received at its head office a request to conduct an arbitration proceeding along with a statement of claim (hereinafter: "the Arbitration Request") filed with the International Court of Arbitration of the International Chamber of Commerce in Paris by Sabre Inc. (a US-registered corporation) and by Sabre Marketing Nederland B.V. (a corporation registered in the Netherlands) with regard to the cooperation agreement signed by the Company and Sabre in 2001 (hereinafter: "the Agreement"). Pursuant to the agreement, a joint company (Sabre Israel Ltd.) was established by the Company and by Sabre Inc., engaged in providing flight reservation services and associated services. According to the agreement, legal proceedings concerning the agreement are to be conducted in accordance with the rules of the International Court of Arbitration, to be heard by a single arbitrator in London, in accordance with essential Israeli law. In the statement of claim, Sabre alleged that the Company was in breach of the agreement as a result of its replacement of its previous reservation system with a new international reservation system. Remedies requested in the statement of
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claim include enforcement of the agreement and provision of exclusive rights to marketing of the distribution system. Alternatively, monetary damages are claimed including, inter alia, damages amounting to $36 million for breach of contract as well as $67 million for damage to reputation. On October 1 2009 a series of agreements was signed in which all disputes and legal proceedings between the parties would be laid to rest. Accordingly, the commercial agreement at the basis of the joint company – Sabre Israel - was concluded, and on the date of the settlement the Company sold the entirety of its holdings in the joint company (49%) in return for the payment of the Company's share of the joint company's equity and the joint company also repaid the owner's loan granted by the Company, the balance of which equaled a sum of $1.2 million U.S. In addition, the Company and Sabre entered into a new agreement, updating the existing agreement for distribution using the Sabre distribution system, allowing Israeli travel agents connected to this system to work in a full content format. Furthermore, according to the settlement the Company cancelled charges issued to the joint company for data processing and communications expenses and paid the joint company sums offset in the past by those charges, concurrently with the cancellation of the additional arbitration process beginning in Israel in relation to these sums. As a result of the aforementioned settlement, the Company listed a reduced provision to the amount of $1.7 million U.S. in its Q3 2009 Financial Statements. 9.14.13 In February 2006, the Antitrust Division of the U.S. Justice Department ("Antitrust Division") began an open investigation against several airlines, together with additional competition authorities in Europe and other countries, for suspected price fixing with respect to certain increments to prices of air cargo transport. Several cargo transporters announced that they had received Grand Jury subpoenas pertaining to this investigation. On September 27, 2006, the Company received a grand jury order from the Antitrust Division demanding information and documents regarding pricing practices and certain surcharges related to cargo transportation, since early 1999 and through the date of said order. The Antitrust Division has informed the Company that it is under inquiry as a suspect. The Company cooperated with the inquiry, while conducting an internal review of its cargo pricing practices. The Company provided the Antitrust Division with the information it required. On May 25 2008 the Company's Board of Directors reached a decision regarding the listing of a provision in the Financial Statements to the amount of $20 million U.S. The decision was made based on a study of the possibility of a settlement with the U.S. Justice Department and was carried out as a matter of prudence and not as an admission of liability. On January 21 2009 the Company's Board of Directors approved a plea bargain made with the U.S. Justice Department to end the process. Within the framework of the plea bargain, the Company was required to admit that it had violated U.S. antitrust law and was involved in the fixing of one or more price components in the field of air cargo shipping to and from the U.S. in the period between January 2003 and February 2006, and was required to pay a fine of $15.7 million (to be paid in several interest-bearing installments across four year period). In addition, the Company undertook to continue its full cooperation with the U.S. Justice Department in its investigation. As part of the agreement, the U.S. Justice Department agreed not to file additional charges against the Company or charges against Company employees and executives, past or future (with a few exceptions)
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regarding violations of U.S. antitrust laws made in the field of airborne cargo transport prior to entry into the plea bargain. A U.S. Federal Court approved the decision on February 4 2009. Following the above, the provision made by the Company was reduced by some $5 million. 9.14.14 In October 1998, a lawsuit for NIS 230.4 million ($61 million) was filed in the Nazareth District Court against the Company, along with a motion for class action recognition. The claim relates to an allegation of the collection of excess flight ticket prices by travel agents that, according to the plaintiffs’ allegation, resulted from the use of improper exchange rates. In 2002, the court approved the motion for class action recognition for one cause - deception under the Consumer Protection Law - and rejected other causes that had been alleged by the plaintiff. The Company filed a motion with the Supreme Court for leave to appeal and, concurrently, an appeal was filed by the plaintiff regarding those causes that had been rejected by the District Court, which were primarily based upon the filing of a class action under Regulation 29 of the Civil Law Regulations. The hearing was delayed following a request by the court, with the consent of the parties, until a ruling in another hearing in the matter of A.S.T.57, following which the plaintiff gave notice of its request to remove the reference to the grounds in the general law from the appeal, and the court ruled that the hearing on the appeal would take place solely on the basis of grounds from the Consumer Protection Law. In January 2006 the plaintiff filed a motion to amend the appeal, in the context of which it requested to add additional grounds in accordance with the directives of Amendment 18 to the Consumer Protection Law. In August 2009 the Supreme Court accepted the appeal filed by the Company and overturned the suit.
9.15 Goals and Business Strategies On September 20, 2005, the Company's Board of Directors approved the Company's strategic program for the next five years and the principles of implementing it, entitled "El Al 2010", the ultimate goals of which were designed to improve business performance by increasing sales and improving profitability. The goals of the program included: (a) significant improvement in customer service by enhancing the customer's experience in all of the Company's activities according to the needs of specific fields, focusing on the business customer and dealing with his special needs, emphasis on developing customer loyalty, improving the treatment of the incoming tourist and establishing an integrated service center; (b) cultivation of operational excellence, in the dealings with customers and other processes, as well as by striving to reduce the level of fixed assets relative to revenues and investment in systems and processes for optimal management of the organization's resources; (c) business innovation and initiative, including initiatives for developing traffic to and from Israel, development of additional revenue sources in the areas of maintenance, tourist services and ground services, development of BGN as a transit airport for continuing flights and conversion into a global company, advancement of cooperation with aviation wholesalers and development 57
In the matter of A.S.T., the Supreme Court decided that class actions are possible under the specific legislation that includes this possibility and, essentially cancelled the possibility of using Regulation 29 of the Civil Law Regulations for the purpose of filing class actions for a cause that is outside of the specific laws as above. As mentioned, on September 1, 2005, the ruling in a further hearing on the A.S.T case was issued, in which the previous ruling issued by the Supreme Court on this matter was ratified in which it was determined that Regulation 29 could not serve as a source for class actions.
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of the Internet as a distribution channel; (d) outfitting, including investment in modern equipment for long range routes, gradual rejuvenation of the aircraft fleet in accordance with financing terms, repayment ability and market development, and weighing continued outfitting based upon market developments; (e) improvements in the areas of cargo and maintenance, through continued growth in cargo operations while, at the same time, evaluating the operational structure, strengthening the ability to sell maintenance services and examining the development of maintenance as a profit center for the Company, and investigating cooperative arrangements with Israeli and international airlines for expansion of the ranges and areas of activities; (f) cultivation of human resources by means of updating labor agreements, developing and updating training systems, employee compensation and incentives, and embedding the culture of a private entity in a competitive market. The Company continued to act in accordance with its strategic plan in 2009, while adapting the strategic plan to accommodate the various factors influencing the Company, including the impact of the financial crisis, the geopolitical situation and the impact these factors have on the aviation industry and on passenger traffic to and from Israel, changes in jet fuel prices and increased competition. Implementation of the strategic plan in 2009 was reflected in, among other things: a. Adapting means of production to the demand climate and profitability of the routes by increasing or decreasing capacity or limiting activity at unprofitable destinations, in order to optimize the route network. b. Following the improvement in customer service and broadening the varied services provided by the Company in Israel and abroad, including operating flights to new destinations, preparations for domestic flights and the establishment of an infrastructure for expanding activities in the areas of tourism and vacation package services. c. Carrying out national tasks such as assisting in aid and rescue missions (such as flying medical and rescue teams to Haiti) and special missions influencing tourism from Israel (bringing pilgrims from Nigeria). d. Making decisions regarding cargo activity in particular the decision to lease a 747-400 aircraft (as detailed in 8.1.2 above), reached after carefully examining the possibility of continuing to operate the cargo fleet in its current form and the major investments involved. e. Making decisions on outfitting, including aircraft leasing transactions and the sale and re-lease of aircrafts as well as examining the implementation of decisions pertaining to aircraft purchases and leases, while adapting the nature of the transactions to the Company's operational and financing needs (for details see 7.11 and 8.10 above) f.
Continuing the development of sources of income in maintenance areas while providing services to airlines, including expanding the agreement with Nepal Airlines to grant maintenance services.
g. Continuing with the implementation of technological systems, by, among other steps, expanding the use of the Amadeus system at stations and designated systems in various operational areas. h. Continuing with its comprehensive approach to matters of safety and the environment. Including air pollution and noise hazards, in which the Company received various approvals and places itself forward for regular inspection. For further details see 9.10 above.
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i.
In January 2010 the Company employed the services of a professional consulting agency specializing in providing consultation to airlines throughout the world, for the implementation of a consulting project in specific areas to detect opportunities to improve the Company's profitability. Interim results have been submitted to Company Management and include a series of recommendations primarily in commercial areas, risk management, quality and service, with the aim of developing sources of income, new partnerships and achieving the Company's potential in the fields of passengers, cargo and tourism. Company Management is currently examining the recommendations and is preparing to formulate an appropriate implementation plan.
Implementation of the business strategy presented above by the Group constitutes “Forward-Looking Information” as defined in the Securities Law, and is based upon the Group’s assumptions, assessments and forecasts as to its business environment, which could change, in whole or in part, from time to time, thus effecting how it is actually implemented by the Group and the achievement of the program's goals. Accordingly, actual results, in whole or in part, may not be realized as above, be realized in part or to be materially different than the results that are estimated, derived or implied from this information, inter alia, for the reasons detailed below. Application of this strategy may be affected by regulatory changes that may require that actions be taken, inter alia, as regards the route network and the aircraft fleet. In addition, implementation of the strategy is subject to the implications of global economic, political and/or security changes on environmental demands, on increased competition as a result of the State of Israel's aviation policy and the expansion of the activity of low cost airlines or aviation pacts in the Israeli market and the planned implementation of an aviation agreement ("open skies") with the EU. In addition, implementation of the strategy could be affected by fluctuations in jet fuel prices, which constitutes a substantial part of the Company's expenses. It is the Group's practice, from time to time, to evaluate the conformity of the strategic program and its goals to developments in the Group's business environment, as it did in 2009 as detailed above. The Company is working on the development of a medium and long-range business strategy, which is expected to express the Company's goals and strategies for coming years, while adapting its current strategy to developments in world markets and in international aviation.
9.16 Developments Projected for the Coming Year The Group intends to continue studying the adaptation of its activities to trends and developments occurring in the Group's business-economic activity environment and in global aviation. The continuing economic crisis and the gradual recovery may have a negative impact on the Group's operating results, this in light of the crisis's influence on the world's financial markets and on the aviation industry. These trends and changes require a constant in-depth examination of the Group's activities, including the combination and profitability of the Group's route network in the fields of passengers and cargo. In addition, the Group's activity over the coming year is also expected to be influenced by changes in regulation affecting the activity including the "Open Skies" policy, as described in Section 7.1.10 above. The goals of the strategic program will be accomplished by attentiveness, inter alia, to the manner in which the Company's outfitting plan is being realized and to the
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strengthening the Group's ability to cope with and prepare for toughening competition, and striving to improve the business results in 2010 by enhancing the mix of revenues, improving yields, implementing organizational efficiency measures and cutting expenses. The information concerning the forecast of developments during the coming year represents Forward-Looking Information, as defined in the Securities Law. The information is supported, inter alia, by the Company’s assessments, forecasts or intentions as of the report date. Therefore, the actual developments during the coming year may be, in whole or in part, materially different than the developments assessed, derived or implied from this information, as the result of a large number of factors, including those listed in Section 9.15 above and the risk factors described in Section 9.18 below.
9.17 Financial Data on Geographic Segments See Note 37.b to the Financial Statements for data on geographical segments. For explanations regarding developments in these sectors, see Section a.5 of the Board of Directors Report.
9.18 Discussion of Risk Factors Like other airlines, the operations of the Company are affected by several external and internal factors that could lead to material changes in its profitability (positive or negative). The risk factors may be divided into macro risks, industry risks and risks that are unique to the Group. The major risk factors are: Macro Risks 9.18.1
Political or Security Events or Terrorist Acts Political or security events or terrorist acts in the world or in the region have an immediate, negative effect on the demand for passenger and cargo transport and influence the Company’s economic condition and volume of activity. The risk is that the impact on the Company's revenues will be caused as a result security and geopolitical events in Israel or in target destinations.
9.18.2
Exposure to Currency Risks Most of the Company’s revenues and expenses are denominated in or linked to foreign currency (mainly the US dollar). The Company is exposed to a rise in the value of the shekel relative to the dollar with respect to current wage expenses and other liabilities denominated in shekels in the Company's balance sheet, principally with respect to termination of employee-employer relationships and vacation provisions. The revaluation of the shekel vis-à-vis the dollar increases the Company's current expenses and also increases, in dollar terms (without effecting cash flows), the Company's obligations related to termination of employeeemployer relations. In addition, the Company's policy to reduce exposure to the risks of the principal foreign currencies (pound sterling, euro, rand, etc.) is executed by matching payments and receipts in each branch. In years when the volume of the receipts was not significantly different from the volume of payments in European currencies,
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the mixture served as internal protection against currency exposure vis-à-vis the dollar, whereas in years in which there is an excess of payments over receipts, the Company has exposure to those currencies, and mainly against the Euro. From time to time, the Company examines the necessity of investment in derivative financial instruments in order to reduce exposure to foreign currency risks. See Section b.1.(5) to the Directors’ Report, as well as Note 31.e to the Financial Statements for details with regard to the actions taken by the Company for hedging the exposure to currency risks. 9.18.3
Changes in Economic Activities The aviation and tourism industries are sensitive to changes in economic activity affecting the demand for passenger and cargo transport. The expense structure of the aviation industry, which includes a high component of fixed expenses, makes it very difficult to implement procedures to conform the Company's supply to changes in short-term demand. During periods of an economic slowdown, the demand for air transport is reduced for different reasons, and excess capacity and unutilized labor and flight equipment is created. Consequently, the Company’s economic position is worsened, as reflected in its business results. The global financial crisis has led to the collapse of financial bodies and the nationalization of other bodies by various governments. The crisis has led to a global slowdown and even to a recession, which has caused a sharp drop in the demand in international passenger and cargo traffic (for further details see Sections 6.1, 6.2 and 7.1.3 above).
9.18.4
Outbreak of Epidemics and Natural Disasters Outsides factors such as natural disasters, fires and earthquakes, epidemics and so forth, may harm the Company's normal course of operations. Outbursts of epidemics (such as the "Swine Flu") and natural disasters (such as the Haiti earthquake) have a negative effect on passenger traffic to the disaster areas and therefore may have a similar negative effect on the Company's business results.
9.18.5
Exposure to Variable Interest Rates The Company finances part of its investments using credit from banking institutions. The Company’s loans and most of its deposits are in dollars. Most of the loans bear variable interest and, accordingly, any change in interest rates might materially affect the Company’s financing expenses and cash flow. In order to reduce exposure to this risk factor the Company has entered into interest risk hedging agreements. See Section b.1.(4) to the Board of Directors’ Report for details with regard to the actions taken by the Company to hedge the exposure to variable interest rates. These hedging agreements may expose the Company to changes in the fair value of said hedging agreements. For further details see Notes 7, 25 and 31.f to the December 31 2009 Financial Statements.
Industry Risks 9.18.6
Jet Fuel Prices Jet fuel is a significant component of an air carrier's operating expenses. Jet fuel prices are subject to sharp fluctuations. Between 2004 and July 2008 the price of jet fuel rose at a substantial rate, while starting from the third quarter of 2008, sharp decreases were registered in jet fuel prices. Jet fuel prices rose again in
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2009. The Company's profitability may be significantly harmed by increases or severe fluctuations in jet fuel prices. The Company employs hedging activities for part of the forecasted jet fuel consumption. This policy could change according to circumstances. As a result of this policy the Company faces an accounting risk due to fair value changes as well as the requirement for restricted deposits. Due to the great weight of jet fuel in the Company's operating expenses, every increase in jet fuel prices negatively affects its operating expenses and business results. See Section 9.5.1 above. See Section b.1.(3) to the Board of Directors report and Note 31.g to the Financial Statements for details of actions the Company has taken to protect against changes in fuel prices. 9.18.7
Changes in Competition The aviation industry is characterized by a high level of competition, which becomes more acute during periods of excess capacity. The entry of additional charter airlines into the market, the entry of additional foreign scheduled carriers into the Israeli market or an increase in capacity of existing foreign carriers, the entry of additional Israeli carriers into the market and the appointment of additional Israeli carriers as Designated Carriers (in the fields of passengers and cargo), the entry of additional charter and low cost airlines, and the granting of operating licenses to additional Israeli airlines in the passenger and cargo areas cause a worsening of competition in the Israeli aviation industry, a situation that may reduce the Company’s share in the industry's operations, create excess capacity, lower the level of passenger and cargo transport prices and hurt the Company’s business results. This trend of stiffening competition intensified over recent years, as it did in 2009 with the entry of new airlines and the increased capacities and frequencies of airlines operating in the Israeli market (see Sections 7.1.2, 7.1.10 and 7.8 for details). In addition, changes in international agreements, including the implementation of an aviation agreement (the Horizontal Agreement) between Israel and the EU, signed in December 2008, and the progress of talks on the matter of the global agreement with the European Union (Open Skies) which is designed to replace all bilateral agreements with EU member states and remove restrictions the number of carriers, frequencies, capacity and type of aircraft may have a negative impact on the Company's activities as a result of intensifying competition and multiple carriers and capacity. It should be stated further, that the increase in flight capacity of foreign airlines in the passenger aircraft field, also led to a substantial increase in the capacity of cargo flown in the holds of passenger aircraft of these companies to and from Israel, and exacerbated the competition also as relates to the activity of cargo aircraft. See 7.1.10, 7.8, 8.1.10 and 8.7 above for further details.
9.18.8
Seasonal Influences The operations of the Company are seasonal by nature and are focused during peak periods (see Section 7.9 above). Tourism traffic, mostly during the summer season and at holidays (Jewish and Christian), is higher than the annual average. The cargo transport field is also characterized by high seasonal fluctuations. As the component of the capital expenditures and fixed expenses out of the total Company expenses is significant, the impairment of operations during the peak season (due, for example, to political and security events) or the inability to obtain replacement aircraft, even if concentrated over a relatively short period, can have a substantial negative effect on the business results of that year.
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9.18.9
Government Resolutions on Aviation and Licensing the Company as an Air Carrier (a) A change in the Government’s policy with respect to the Company’s status as a Designated Carrier for all or part of the routes on which the Company serves as Designated Carrier could materially affect the Company’s financial results, according to the type of route. Additionally Government resolutions could change the Company's position and have a negative effect on its financial results (see Sections 7.1.10 and 7.1.2 above for details on the Government resolutions on the subject of state participation in security expenses and the Israeli aviation policy in the matter of appointing Designated Carriers and related legal proceedings). (b) The Company’s operating licenses as an air carrier and its rights as such are conditional upon the practical ownership and the effective control being in Israeli hands. The Company's ability to always know the extent of foreign ownership of its shares is limited to the records it administers, and, accordingly, a situation may exist in which the foreign owners of shares did not report their holdings to the Company (purchase or sale) and were not recorded in the shareholders' registry, so foreign ownership will exceed the permissible percentage or will be less than the percentage recorded in the shareholders’ registry, without the Company being aware of it. If the Company becomes aware that foreign ownership exceeds the permissible percentage, it will be able to act in conjunction with the Special State Share to reduce the percentage of foreign ownership. Should it be unable to do so and the foreign holdings in the Company’s shares exceed the permissible percentage, the Company could lose its status as a Designated Carrier. However, whenever the holder of the Special State Share and/or the Minister of Transportation believe that the actual control and the ability to direct the Company’s operations remains in the hands of the Board of Directors, of which two thirds of its members, including the Chairman, the CEO and Company officers, are Israeli citizens and permanent Israeli residents, the risk is minimal that the Company will lose its status as Designated Carrier just because of the rate of foreign ownership in the Company’s shares.
9.18.10 Operations in an Industry with a High Fixed-Cost Structure The Company operates in the aviation industry, which has a structure of relatively high fixed costs and relatively low profit margins. Therefore, small changes in the level of revenues or expenses could have a direct effect on whether there will be earnings or losses. 9.18.11 Noise and Environmental Restrictions on Flight Operation Every change in restrictions on night operations at BGN or other airports from/to which the Group flies and each additional restriction or prohibition on the operation of aircraft due to air pollution, noise, etc. might have a material effect on the Company's business results. A number of alternatives are presently being examined as to a change in the hours of operation at BGN and the permissible noise levels, which, if they are carried out, could materially affect the Company’s business results. (See Sections 9.10.2 and 9.10.3 above for further details.) 9.18.12 Effect of the Operations of Low Cost Airlines on the Israeli Market Airlines with a low production cost structure (low cost carriers) have increased their market share substantially in recent years, principally in the United States and in
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Europe. This growth has negatively affected veteran airlines with higher production cost structures, and has caused a decrease in their market share and a drop in their yield due to fare reductions as the result of competition. Most low cost airlines specialize in short flight legs. Under the terms of new aviation agreements signed in recent years airlines have began operating in Israel with a format similar to that of low cost airlines which have not operated on Israeli routes before along with low cost airlines such as EasyJet (for details see Section 7.1.10 above). The entry of these and other airlines into the Israeli market could have a negative effect on the Company's business performance, due to the increased capacity offered by these airlines at reduced prices. See Sections 7.1.1, 7.1.4, 7.1.8 and 7.1.10 above for additional details. 9.18.13 Impairment of Flight Safety or Flight Security In order to maintain flight security, the Company upholds security arrangements in accordance with the instructions of the authorized governmental agency. In order to maintain flight safety, the Company carries out the instructions and provisions stipulated by the relevant entities, including the instructions of the manufacturer and the Civil Aviation Authority. Damage to the Company's flights and/or its customers and/or its installations and/or its employees, due to an event connected with flight security and/or flight safety is liable to have a material negative effect on the Company's operations, inter alia as a result of harm done to reputation, the loss of revenues and customers and the Company's exposure to legal action. 9.18.14 Aviation Regulation The Company's activities and its ability to expand the scope and layout of its activity, is dependent, among other things, upon various regulatory approvals granted by authorities in Israel and around the world. The absence of proper licensing and the failure to uphold international or local regulations may lead to increases in Company costs, to competitive inferiority in comparison with the Company's competitors and may harm the Company's regular course of activity. The FAA's lowering of the flight safety rating for the State of Israel to Category 2, as occurred in December 2008, may have a negative impact on the Company's activity, inter alia in light of the fact that although the declaration in question refers to the safety rating of the State of Israel, the implications of the declaration are harmful to the Company's operations to and from the U.S. as well as damaging to its reputation. For details concerning the declaration and its impact on the Company see Section 9.11.2.(h) above. Risks Unique to the Company 9.18.15 Costs of Maintaining Flight Security Since the Company is required to maintain security arrangements which are determined by a governmental body and it bears security expenses over which it has no control, most of which do not apply to foreign, competing airlines, this situation hurts its profitability, its competitive ability, and the development of a route network. The Government passed several resolutions in 2008 and 2009 altering the rate of the State's participation in Israeli airlines' direct security costs. For details regarding the Government resolutions and legal proceedings initiated by the Company on this matter see Section 7.1.2 above. The rate of the State's
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participation in the Group's flight safety expenses, changes in the extent of safety measures the Company will be forced to take (due to security events or attempted attacks), as well as whether the Company will be forced to discontinue or limit its flights to additional destinations as a result of safety reasons, may have a material impact on the Company's operating results. 9.18.16 Restrictions on the Future Receipt of Credit and Failure to Meet Financial Criteria The Company has undertaken towards its long-term loan providers to maintain a proper collateral ratio between the unpaid loan balance and the collateral pledged to the bank, as stipulated by each agreement. In addition, the terms stipulated in certain agreements relating to loans taken by the Company include the bank's right to demand immediate repayment of the loan balances owed to that bank if, in its opinion, based on reasonable criteria, a change had occurred that adversely affects the Company’s financial position or its operations or its business or its financial ratios, in a manner endangering or potentially endangering its ability to repay the bank loans. The failure of the Company to comply with financial covenants stipulated in the loan agreements, including with regard to the decrease in market value of the collateral, and/or the demand for immediate repayment of Company loans by the banks, might have a negative effect on the Company's business results. In addition, single borrower and group of borrower limitations may apply to the Company, as well as limitations on the transfer of control and on changes to its ownership structure, taking the extent of the credit and the identity of the Company's controlling party into account. For details regarding credit limitations see Section 9.8.2 above. 9.18.17 Business Restrictions In light of legislative changes in the field of business restrictions, the competitive ability of Israeli carriers, among them the Group, may be damaged, and this may lead to a negative impact on the Group's activities due to regulatory restrictions on the existence of international agreements in the Group's areas of activity or the non-approval of these agreements (existing or new) by the Restriction of Business Authority (for details see Section 9.11.2.(i) above). The differences between Israeli antitrust law (according to which advance approval is required for certain commitments and a risk exists that this approval will not be granted) and antitrust laws elsewhere in the world may impact the competitiveness of Israeli airlines, in particular in light of the mergers, acquisitions and aviation pacts common in international aviation. In addition, legal proceedings in the field of business restrictions to which the Company is party, including the class action suit conducted in the U.S. regarding price coordination in airborne cargo transportation, may have a negative impact on the Company's financial results. For further details on the matter of legal proceedings in the field of business restriction see Section 9.14 above. 9.18.18 The Municipal Status of BGN From time to time, addition of BGN to the jurisdiction of the city of Lod is considered. If the transfer of BGN to the jurisdiction of any local authority should become a reality, the expenses of the Company might rise (due to the payment of municipal taxes which up to now have not been paid), and the matter will negatively affect its business results.
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9.18.19 Labor Relations Every interruption of operations of an air carrier due to sanctions or a strike causes a non-recoverable loss and damage to customer confidence. The situation in the industry and the increasing rate of competition necessitate continuing efforts to increase Company efficiency and to improve service to the customer public. These depend on stable labor relations in the Company, on the employees' identification with the Company and on readiness to cooperate and in an understanding with management. Although the “industrial calm” in the Company has been maintained since 1983, excluding a small number of disruptions, the efficiency which can achieved in structural changes, in the reduction in the number of personnel (with the emphasis on permanent employees), and the reduction of labor costs, could cause a shakeup, even for a short period, in the delicate texture of labor relations in the Company. This could cause damage in the immediate term and hurt the Company’s goodwill over the longer term, and it might have a negative effect on the business results of the Company for that year and thereafter. Additionally, there could be difficulty in utilizing business opportunities and dealing with changes due to limitations in the labor agreements. For details on the collective labor agreement signed November 2 2008 and the proceeding pertaining to separate pilot representation, see Section 9.4.7 above. 9.18.20 Legal Proceedings The Company is a party to legal proceedings, including a number of lawsuits which the courts have been requested to recognize as class actions (including proceedings in the U.S. for recognition of a claim as a class action, pertaining to cargo price fixing), which might cause it to be charged with material amounts that cannot be estimated, and for a majority of which, no provision has been made in the Company’s financial statements. In addition, legal proceedings have been initiated in Europe and in Korea in the matter of added prices collected for cargo shipping. These proceedings could have a substantial effect on the Company due to the penalties that these authorities may impose (See Section 9.14 above for further details regarding these proceedings). 9.18.21 Restrictions Due to Certain Provisions of the Special State Share The restrictions relating to maintaining minimal flight capacity, especially for cargo aircraft, and the prospect of the State demanding to increase the minimal flight capacity with which the Company must comply, diminish operational flexibility and impose burdensome obligations (assurance of fitness). The indemnification in these cases does not cover the Company’s expenses. In addition, the Government Corporations Law gives the Company the authority to prescribe instructions that are intended to protect the vital interests of the State with respect to the Company, this according to decrees under Chapter 2H of the Government Corporations Law. Such decrees might restrict the Company's business judgment and, as a result, could hurt its financial results. See Section 8.10 above for information concerning the request from the holder of the Special State Share with respect to the reduction of the fleet of cargo aircraft in its possession. 9.18.22 Dependence on Aircraft Manufacturer The Boeing Corporation manufactured all of the aircraft in the Company's service. The discontinuation of Boeing's operations could cause temporary operational
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difficulties for the Company. The Company is materially dependent on Boeing, both with respect to spare parts and with respect to engineering support. At the same time, the Company estimates that the likelihood of the discontinuation of this support is low. 9.18.23 Dependence on Regular Operations at the Home Airport (BGN) Most of the Company’s operations are carried out at the home airport, BGN. Therefore, an interruption or breakdown in the normal operations of BGN and/or changes in the policies of granting takeoff and landing authorizations (slots) at the central airports in which the Company operates might have a material negative effect on the Company’s operations. A BGN runway is expected to begin restoration works in 2010, a process expected to last 4 years, during which BGN will contain just one functional runway. In addition, a proposal exists that Ben Gurion Airport be opened for departures throughout the night. Changing the operating hours and changing the activities to accommodate a single runway may have a material impact on the Company's operational abilities and financial results. 9.18.24 Flights on the Sabbath and Jewish Holy Days The Company continues to operate pursuant to a 1982 Government resolution and does not operate passenger flights on the Sabbath and on Jewish holidays. For details regarding the agreement between the Company and the Committee of Rabbis for Sabbath Observance see Section 7.10 above. Non-fulfillment of the understandings regarding flights on the Sabbath and Jewish holidays, or a change of the Company's policies with respect to this subject, could cause a dispute with this customer sector, which could affect the Company's results due to a consumer boycott. 9.18.25 Information Systems and Information Security The current operations of the Company, the business activities and the services that it provides are based upon information systems and databases. The risk exists of mishaps and failures in the operation of the Company's information systems, which may lead to the shutdown of crucial systems or the absence of support for a certain period. The lack of an appropriate backup site may lead to damage to the Company's activities and to its database. In addition, disruptions in the adoption of the new Amadeus ordering system at the Company's stations (Stage B of the system's implementation may be harmful the Company's regular course of activities. The following table presents the risk factors described above according to their nature (macro risks, industry risks and risks particular to the Group), which have been ranked, as estimated by the Group’s management, according to their effect on the Group’s business as a whole - major, moderate and minor effect. The Company’s assessment as to the ranking of the risks was determined in consideration of the likelihood of the occurrence of the event and the measure of damage that might be caused to the Group, should the event take place.
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Extent of Risk's Effect on the Company Major Effect
Moderate Effect
Minor Effect
Macro risks Political or security events or terrorist actions
√
Exposure to currency risks
√
Changes in the economic situation
√
Natural disasters and epidemic outbreaks
√
Exposure to variable interest risks
√ Industry Risks
Jet fuel prices
√
Changes in competition
√
Seasonal influence
√
Government resolutions on aviation matters and the Company's licensing as an air carrier
√
Operations in an industry with a high fixedcost structure
√
Noise restrictions maters
environnemental
√
Effect of low cost airlines operation on the Israeli market
√
and
Impairment of flight safety or flight security
√
Aviation regulation
√ Risks Particular to the Company
Costs of maintaining flight security
√
Restrictions on receipt of credit and failure to meet financial criteria
√
Business restrictions
√
Municipal status of BGN
√
Labor relations
√
Legal proceedings
√
Restrictions due to provisions of Special State Share
√
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Extent of Risk's Effect on the Company Major Effect
Moderate Effect
Dependence on aircraft manufacturer
Minor Effect √
Dependence on regular operations at home airport (BGN)
√
Saturday and religious holiday flights
√
Information systems and information security
√
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______________ 2009 ANNUAL REPORT CHAPTER B DIRECTORS' REPORT
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El Al Israel Airlines Ltd. Report of the Board of Directors on the State of the Corporation's Affairs For the Year Ended December 31, 2009 We hereby present the Report of the Board of Directors on the State of the Corporation's Affairs for the year ending December 31, 2009. 2009 was affected by the global financial crisis beginning in 2008 which caused, among other things, a drop in passenger and cargo traffic via air, to surplus seat and cargo volume offerings, which along with the drop in jet fuel prices from peak levels in summer 2008 and the significant drop in business traffic, reduced the yield per passenger and per ton of cargo and led to material losses for airlines around the world. Passenger traffic through Ben Gurion Airport was also impacted by Operation "Cast Lead" and its reverberation since the first half of 2009. The total amount of seats offered by scheduled airlines at BGN increased 4.9% in 209 relative to 2008, while the number of passengers on regular flights increased by only 1.1%. Charter traffic through BGN in 2009 decreased 27.4% compared to 2008. In total, international passenger traffic to and from BGN in 2009, according to Israeli Airports Authority data, amounted to 10.5 million passengers, which constitutes a 5% drop relative to 2008. Total import/export cargo passing through BGN decreased 15.8% compared to 2008. In total, in 2009 the Company flew 3.8 million flight segments in scheduled and charter flights, similar to 2008, while preserving a high load factor of 81% and a market share of 37.5% compared to 35.7% in 2008. In 2009 the Company carried 87.3 tons of cargo, and its market share reached 33.0%, similar to 2008 (32.9%). The Group's revenues in 2009 amounted to $1,656 million, a 21.0% drop from 2008. Gross earnings amounted to $211.6 million compared to $320.0 million the previous year, a 33.9% decrease. The Company listed a net loss after taxes of $76.3 million in the reported year compared to a $41.9 million loss in 2008. The balance of cash, cash equivalents and short-term investments as of December 31, 2009 totaled $114.6 million compared to $58.4 million on December 31 2008. The Company's equity as of December 31 2009 amounted to $123.8 million, a $5.1 million increase over December 31 2008. In spite of the severe financial crisis and the geopolitical situation in the region, the Company continued with its vigorous commercial and operational activity. In 2009 the upgrade to the first and business classes of all long-range aircraft was completed, a system for the sale of duty-free items online was completed, code sharing agreements were signed with two European and one Chinese airline, the Company increased its sales through direct marketing channels, the call center and online internet, by 37% compared to 2008. In May 2009 the Company opened its first direct route to South America, to Sao Paolo in Brazil, and began operating an additional line to Luton Airport near London and is currently preparing to open its route to Eilat. In 2009 the Company accepted three new Boeing 737-800 aircraft purchased at a total investment of $146.3 million, of which $126.0 million were paid as of the reported year ($19 million of which was from the Company's own means). In addition, in the reported year the Company invested in fixed assets, including engine overhauls, a total of $52.7 million, and repaid loans to banking institutions to the amount of $74.6 million. On December 31 2009 Mr. Haim Romano left the position of Company CEO after five years tenure. On January 1 2010 Mr. Elyezer Shkedy was appointed Company CEO. The Company is currently working on its medium and long range strategic plan, which is expected to express the Company's goals and strategies for the coming years, while matching current strategy to developments in global markets and the global aviation industry.
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1.
General
1.1 Changes in International Standards (IFRS) Starting from the first quarter of 2009, the Company has been retroactively applying changes in accounting policy to its Financial Statements, changes in accounting policy deriving from the implementation of new standards and interpretations of International Financial Reporting Standards (IFRS), coming into effect as of the balance sheet date, including IFRS-8 "Operating Segments", IAS1 (Revised) – "Financial Statement Presentation", IFRIC-13 – "Customer Loyalty Programs" and the revision to IAS-19 – "Employee Benefits", as part of the improvements to the 2008 IFRS. For further details regarding the standards and the impact of their implementation on the Group's Financial Statements, see Note 3 to the Financial Statements.
1.2 The Company and its Business Environment The Company serves as the designated air carrier of the State of Israel on most of the international routes operating to and from Israel. The key activities of the Company and its subsidiaries are the transport of passengers and cargo, including baggage and mail, through scheduled flights, and regarding the transport of passengers, also on charter flights between Israel and overseas. The Company is also engaged in providing security services and maintenance services, including for other airlines at Ben Gurion Airport, in the sale of duty-free products, in the leasing of aircraft, and through investees – in ancillary activities, mainly the manufacture and supply of airline food and the management of several overseas travel agencies. The business environment in which the Company operates is the international civil aviation industry, and inbound and outbound tourism, which is characterized by a seasonal nature and strong competition, which becomes more severe during periods of excess capacity, as well as high levels of sensitivity to the economic, political and security situation in Israel and around the world. The Group has two operating segments reported as business sectors in the Company's consolidated Financial Statements: A)
Passenger aircraft activity - In this segment, the Group transports passengers, as well as cargo in the cargo holds of passenger aircraft, and provides ancillary services, such as the sale of duty-free products. In the field of passenger transport, the Company competes in its flights to and from Israel with 2 Israeli airlines (Arkia and Israir) and 53 foreign airlines operating scheduled flights and some 50 foreign charter companies of which some 30 operate regular flights. The revenues of this segment constituted 90% of the Group's total revenues in 2009.
B)
Cargo aircraft activity - In this segment, the Group transports cargo in cargo aircraft. In 2009, the Company competed with 6 airlines operating cargo aircraft on flights to and from BGN as well as with most of the scheduled airlines that operate passenger planes that carry cargo in their cargo holds. The revenues of this segment constituted 3.5% of the Group's total revenues in 2009.
The Group has additional revenues that are not allocated to the major segments, accounting for 6.5% of total revenues. For further details regarding the Company's areas of activity, see Item 5a of the Board of Directors Report and Note 37 to the Financial Statements.
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1.3 Holdings of Company Shareholders As of December 31, 2009, the holdings in the Company were: Knafaim Holdings Ltd. ("Knafaim") – 39.3%, The Delek Group – 7.2%, the Ginsburg Group – 6.9%, a Company employee corporation called "Holdings in Trust of El Al Employees Ltd." ("Employees Corporation") – 6.3%, others – 1.6%, the public – 38.7%. Ratio of Holdings in Company Shares on December 31, 2009 (undiluted):
Knafaim 39.3%
Public 38.7%
Ginsburg Group 6.9%
Delek Group 7.2% Employees’ Trust Holdings 6.3%
Others 1.6%
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a. Explanations of the Board of Directors for the State of the Corporation's Affairs a.1
Financial Position (Consolidated Financial Statements) 31.12.2009 in thousands US dollars
Assets Cash, cash equivalents and short-term deposits Restricted deposits Trade receivables Other receivables Current derivative financial instruments Prepaid expenses Inventories Long-term bank deposits Investment in affiliated companies Investments in another company Long-term derivative financial instruments Fixed assets, net Intangible assets, net Long-term Prepaid expenses Assets due to employee benefits Equity & liabilities Short-term borrowings and current maturities Trade payables Other payables Current provisions Current derivative financial instruments Current employee benefit obligations Current unearned revenues Long-term loans from financial institutions Long-term employee benefit obligations Long-term derivative financial instruments Long-term other payables Long-term Provisions Deferred tax Long-term unearned revenues Shareholders’ equity
(*)
31.12.2008 * in thousands US dollars
114,620 7,003 112,086 16,155 11,206 24,873 21,947 1,839 648 1,357 2,255 1,312,930 7,504 2,578 34,501 1,671,502
58,421 152,969 106,046 19,693 174 24,586 11,472 2,189 2,736 1,565 1,314,182 8,618 3,106 36,777 1,742,534
106,016 128,970 54,444 57,217 55,643 81,379 204,444 704,194 65,835 20,135 13,318 5,313 50,813 123,781 1,671,502
86,271 130,893 44,741 57,049 108,072 87,930 197,911 678,657 76,226 86,789 3,297 11,728 1,872 52,434 118,664 1,742,534
change in thousands US dollars %
56,199 96% (145,966) (95%) 6,040 6% (3,538) (18%) 11,032 6340% 287 1% 10,475 91% (350) (16%) (2,088) (76%) (208) (13%) 2,255 (1,252) (0%) (1,114) (13%) (528) (17%) (2,276) (6%) (71,032) (4%) 19,745 (1,923) 9,703 168 (52,429) (6,551) 6,533 25,537 (10,391) (66,654) 10,021 (11,728) 3,441 (1,621) 5,117 (71,032)
23% (1%) 22% 0% (49%) (7%) 3% 4% (14%) (77%) 304% 184% (3%) 4% (4%)
Retroactive implementation of the change in accounting policy – see Note 3d to the Financial Statements.
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The main changes in asset, liability and shareholders' equity items as of December 31, 2009 compared to December 31, 2008 are:
Assets •
An increase in the balance of cash, cash equivalents and short-term deposits, due mainly to a restricted deposits, from the receipt of loans from a foreign bank to finance 3 new 737-800 aircraft, from a positive cash flow from operating activities and from the sale and lease back of 2 757 aircraft, partially offset mainly by investment in the purchase of three new aircraft and other fixed assets and the repayment of long term loans. For further details, see Item 7a below.
•
A decrease in restricted deposits in favor of jet fuel hedgers, as a result of hedging agreements, mainly as a result of the repayment of transactions in the reported period.
•
The increase in trade receivables, derived mainly from the increase in passenger sales while cargo sales decreased as a result of the drop in activity and in cargo prices.
•
The decrease in the balance of other receivables derives mainly from the decrease in receivables for the restoration of leased engines and from the repayment of receivables open as of December 31 2008.
•
The following changes occurred to the Company's derivative financial instruments presented in the Financial Statements under current and non-current assets and current and non-current liabilities): The total net change of the fair value of jet fuel, interest and foreign currency hedging was expressed in a $132.4 million increase compared to the fair value at the end of 2008, as a result of transactions reaching redemption, from additional transactions occurring in the reported period and from changes in the fair value of transactions still open on the balance sheet date. The increase in fair value of derivative financial instruments was expressed in an $80.8 million increase (net after tax) in the capital reserve in respect of cash flow hedges recognized directly in equity, in the $28.1 increase in the deferred tax liability and the $23.5 million decrease in fuel and financing expenses in the Statement of Operations. For further details regarding hedging transactions conducted by the Company see b1(3), b1(4) and b1(5) below.
•
The increase in inventories largely derived from the increase in jet fuel reserves.
•
Investment in affiliated companies decreased as a result of the sale of the investment in Sabre Israel on October 1 2009. For further details see Notes 15.b.4 and 27.d.g.(1) to the December 31 2009 Financial Statements.
•
Fixed assets decreased. On the one hand, the purchase of 3 new 737-800 aircraft and investments in fixed assets and engine overhauls increased the balance. On the other hand, the balance decreased as a result of depreciation expenses and consumption of spare parts and accessories in the reported period, from the sale and lease back of 2 757 aircraft. In addition, the year saw a decrease in value in the 757 fleet and the 747-200 fleet engines, due to the drop in their recoverable sum below their depreciated costs in the Company's books (see Note 16f to the Financial Statements).
•
Intangible assets decreased, as a result of recording a devaluation to an investment in security equipment that did not bear fruit.
•
Liabilities
•
The increase in short-term borrowings and current maturities, mainly due to the increase in short-term credit frameworks from Israeli banks, as well as current maturities on loans received for the finance of 3 new 737-800 aircraft.
•
An increase occurred in the balance of other payables, mainly from the increase in port tax liabilities, from the increase in unearned revenue from customers on account of future flights and liabilities due to cargo claims in the U.S. for which provisions were listed in the account in 2008, while on the other
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hand a decrease was listed in interest expenses payable and in current maturities on early retirement plans. •
Current liabilities due to employee benefits decreased mainly as a result of the payment of the December 2009 salary on the 31st instead of on January 1 as is usually paid over the normal course of business. The payment was pushed forward as a result of the weekend falling near the banks' closing date for the end of the year.
•
Current unearned revenues increase both from the increase in ticket sales revenues and from the accumulation of points by frequent flyer club members.
•
The balance of long-term loans from financial institutions increased as a result of the receipt of a loan for the financing of the purchase of 3 737-800 aircraft in the reported period offset by the current repayment of loans.
•
Long-term liabilities due to employee benefits decreased mainly as a result of regular payments and deposits to the early retirement compensation funds.
•
Following the signing of the arrangement regarding the U.S. cargo claims, the liability pertaining to this claim was reclassified from Provisions to Other payables. As a result, the balance of the payables item increased while that of the provisions item decreased.
•
The increase in deferred tax liabilities, resulted mainly from the increase in the fair value of financial agreements recognized as hedging agreements, offset by deferred tax revenues listed as a result of the yearly loss.
Equity •
The increase in the Company's shareholders' equity is primarily due to an increase in capital reserves due to cash flow hedging as a result of the fair value increase in hedging agreement recognized as hedging, offset by the loss for the year.
As of December 31, 2009, the Company has a working capital deficit of $380.2 million, compared with a deficit of $339.5 million on December 31, 2008. The increase in the working capital deficit is due to the decrease in restricted cash and the increase in short-term credit balance and payables, offset in part mainly form the increase in cash and short term deposit items, liabilities due to financial instruments and inventories. The working capital deficit is due to the Company's current liabilities, which contain two material elements: prepaid income from the sale of airline tickets including airport taxes and frequent flyer clubs, as well as employee vacation liabilities. These elements, which are characterized by a cyclical nature, are included in current liabilities, and essentially explain most of the working capital deficit.
a.2
Analysis of Operating Business Results of El Al
a.2.1 Market Data
Passenger and cargo traffic at BGA
Jan - Dec Jan - Dec change 2009 2008 in thousands in thousands in thousands
Incoming tourists * Departing Israelis * Cargo import - tons ** Cargo export - tons **
2,050 3,397 118 154
2,190 3,552 141 182
* Source: Central Bureau of Statistics. ** Does not include cargo in transit.
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(140) (155) (23) (28)
%
(6%) (4%) (16%) (16%)
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
Incoming Tourist & Departing Israeli Traffic, by Year: (In Thousands) 4,000
3,013
1,653
3,433
3,145
3,552
3,397
2,190
2,050
2,000
1,790
1,565
3,000
1,000 0
2005
2006
2007
Incoming tourists
2008
2009
Departing Israelis
Imports & Exports of Cargo by Air to and from Israel, by Year: (In Thousands of Tons) 250
176.1
181.7
198.8
182.3
200
154.0 150
126.9
134.4
138.9
141.4 118.4
100 50
2005
2006
2007
Export
2008
2009
Import
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a.2.2 Company Operating Data
Jan - Dec 2009
Passenger leg (scheduled and chartered) - in thousands RPK (scheduled) - in millions ASK (scheduled) - in millions Load factor (scheduled) The Company's market share (scheduled and chartered) Flown cargo, in thousand tons RTK - in millions Weighted flying hours (including leased equipment) - in thousands (*) Average man-years (El AL only): Permanent Temporary Total Aircraft in operation - end of period number of units Average age of owned fleet at the end of the period - in years
Jan - Dec 2008
change
3,805 16,410 20,261 81.0% 37.5% 87.3 440
3,823 16,529 20,074 82.3% 35.7% 111.4 590
(0%) (1%) 1% (2%) 5% (22%) (25%)
157.4
161.9
(3%)
3,772 2,075 5,847
3,751 2,287 6,038
1% (9%) (3%)
38
37
1
13.1
14.9
(1.8)
** Total employees (permanent and temporary) in job slots – as of 31.12.2009 – 5,807 and as of 31.12.2008– 5,747.
Glossary: Passenger leg – Flight coupon in one direction. RPK – Revenue Passenger Kilometer – number of paying passengers multiplied by distance flown. ASK – Available Seat Kilometer – number of seats offered for sale multiplied by distance flown. RTK – Revenue Ton Kilometer – weight of paid flown cargo in tons multiplied by distance flown. Passenger Load Factor (occupancy) – flown passenger-km is expressed as a percentage of available seat-km. * Weighted flight hours in terms of Boeing 767/757. Weighted value of the planes: Boeing 767/757 = 1.0; Boeing 747 = 2.0; Boeing 777 = 1.6; Boeing 737 = 0.6. These weighted values were determined based on an estimate of the total expenses of each type of aircraft, and are used consistently to calculate weighted flight hours as an indicator of the volume of aviation activity.
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Operating Data, by Year (in Millions): 25,000
100% 20,324
20,000 16,141
19,750
20,104
17,068
16,055
20,074
16,529
20,261
16,410
90%
15,000 84.9%
10,000
79.4%
82.3%
81.3%
81.0%
5,000
70%
2005
a.3
80%
2006 RPK
2007 ASK
2008
2009 L. F.
Statement of Operations Data For the Year Ended December 31, 2009 (Consolidated Financial Statements): Jan - Dec 2009 in % of thousands operating US dollars revenues
Jan - Dec 2008 in % of thousands operating US dollars revenues
change in thousands US dollars
Operating revenues 1,655,833 100% Operating expenses (1,444,250) (87.2%) 211,583 12.8% Gross profit Selling expenses (182,962) (11.0%) General and administrative expenses (88,562) (5.3%) Other operating expenses, net (15,027) (0.9%) (74,968) (4.5%) Operating loss before financing Financing expenses (30,297) (1.8%) Financing income 3,999 0.2% Company's share in earnings of affiliates, net 442 0.0% (100,824) (6.1%) Loss before income taxes Tax benefit 24,524 1.5% Loss for the year (76,300) (4.6%)
2,096,326 100% (1,776,329) (84.7%) 319,997 15.3% (227,573) (10.9%) (97,103) (4.6%) (975) (0.0%) (5,654) (0.3%) (61,566) (2.9%) 16,969 0.8% 543 0.0% (49,708) (2.4%) 7,801 0.4% (41,907) (2.0%)
(440,493) 332,079 (108,414) 44,611 8,541 (14,052) (69,314) 31,269 (12,970) (101) (51,116) 16,723 (34,393)
%
(21%) (19%) (34%) (20%) (9%) 1441% 1226% (51%) (76%) (19%) 103% 214% 82%
(*) Retroactive implementation of change in accounting policy - see Note 3d to the `Financial Statements. The key factors that influenced the business results in the year ended December 31, 2009 compared with the same period last year: In 2009 the Company listed a net loss of $76.3 million (4.6% of its turnover), compared to a $41.9 million loss (2.0% of its turnover) in 2008. The key factors behind this increased loss are as follows: Operating revenues – operating revenues dropped 18.0% from 2008. The decrease is due mainly to the drop in ticket prices as a result of the reduction in passenger traffic at BGN and business traffic, as well as the decrease in fuel surcharges as a result of its price decrease as detailed below. Cargo revenues decreased 46% in 2009 relative to 2008. The reasons for this were the 15.8% decrease in cargo traffic through BGN, drops in air shipping costs, mainly as a result of the global financial crisis and the discontinuation of East Asian activity in the third quarter of 2008. Other Company revenues decreased, mainly as a result of the drop in sales of duty-free items, services provided foreign airlines and a one-time revenue listed in 2008. In total, Company revenues in the reported period were 21.0% below the previous year.
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The Company's operating expenses decreased by 18.7% relative to 2008. Most of the decrease was in jet fuel costs which dropped 38.3% compared to 2008 and constituted 28.7% of turnover in the reported year compared to 36.8% in 2008. The drop in jet fuel costs derived primarily from its 44% drop in average market price compared to the 2008 average, and from reduced activity. The increase in fair value of hedging agreements not recognized as hedging agreements relative to their value at the beginning of the year also reduced fuel coats, On the other hand, the Company's hedging payments increased relative to the previous year. Salary costs dropped 10.2% in 2009 compared to 2008. Most of the decrease derived from the drop in the average rate of the NIS relative to the USD in 2009, as well as a 3% decrease in average man years compared to the previous year. Other operating costs saw a nominal decrease relative to 2008, however, as a result of the decrease in sales turnover their rate increased by 42.5% compared to 34.0% in 2008. Gross profit amounted to $211.6 million in 2009, 12.8% of turnover compared to $320.0 million, 15.3% of the 2008 turnover. Breakdown of Operating Expenses in 2009:
Jet fuel 33%
Meals 3%
Depreciation 8%
lease expenses 4% Airport fees & service 11%
security expenses 3%
Other expenses 3%
Air crew expenses 3% Wages and social benefits 19%
Air navigation & communication 7%
Maintenance of aircraft 6%
Selling expenses decreased 19.6% compared to 2008, mainly as a result of the drop in distribution expenses as well as reduced salary costs as explained above. At the same time, the share of sales expenses from turnover remained largely unchanged - 11.0%. General and administrative expenses decreased by 8.8% in the reported year compared to last year, primarily due to the decrease in salary expenses. Other net expenses amounted to $15.0 million in 2009 compared to $1.0 million in 2008. Most of these expenses derived from the listed decrease in value of 757 aircraft, 747-200 engines as well as the write-off of a fruitless investment in security equipment made in the past. The Company listed an operating loss before financing to the amount of $75.0 million, 4.5% of turnover in 2009 compared to a $5.7 million operating loss, 0.3% of turnover in the previous year. Net financing costs decreased 41% relative to 2008 as a result of the drop in LIBOR rates which reduced interest expenses due on the Company's bank loans as well as reduced expenses for interest hedging relative to 2008. In addition, in 2009 the Company saw revenues from exchange rate differentials versus exchange rate expenses in 2008. At the same time, a decrease occurred in financing revenue from interest on deposits as a result of the drop in interest rates as mentioned above and as a result of the decrease in Company deposits. In addition, revenues from exchange rate hedging dropped relative to 2008.
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Tax benefit resulting from the increase in net deferred tax liabilities increased, mainly as a result of the increase in fair value of financial transactions recognized as hedging agreements, offset by deferred tax revenues listed as a result of the yearly loss. Oct - Dec 2009
Oct - Dec 2008
in % of in % of thousands operating thousands operating US dollars revenues US dollars revenues
Operating revenues Operating expenses Gross profit Selling expenses General and administrative expenses Other operating revenues (expenses), net Operating loss before financing Financing expenses Financing income Company's share in earnings of affiliates, net Loss before income taxes Tax benefit Loss for the period
413,675 100% (362,555) (87.6%) 51,120 12.4% (44,585) (10.8%) (24,294) (5.9%) (14,041) (3.4%) (31,800) (7.7%) (6,018) (1.5%) 2,703 0.7% 361 0.1% (34,754) (8.4%) 5,734 1.4% (29,020) (7.0%)
462,687 100% (401,141) (86.7%) 61,546 13.3% (47,545) (10.3%) (21,344) (4.6%) 17,727 3.8% 10,384 2.2% (30,208) (6.5%) 5,262 1.1% (35) (0.0%) (14,597) (3.2%) 4,479 1.0% (10,118) (2.2%)
change
in thousands US dollars
(49,012) 38,586 (10,426) 2,960 (2,950) (31,768) (42,184) 24,190 (2,559) 396 (20,157) 1,255 (18,902)
%
(11%) (10%) (17%) (6%) 14%
(80%) (49%) 138% 28% 187%
(*) Retroactive implementation of change in accounting policy –see Note 3d to the Financial Statements. Key factors that influenced the business results in the three-month period ended December 31, 2009 compared with the same period last year: Operating revenues dropped 10.6% this quarter compared to the same quarter last year. Passenger revenues dropped 7.5% as a result of the drop in ticket prices as well as the decrease in fuel surcharges as a result of its price decrease. Cargo revenues decreased 26% as a result of the drop in cargo prices offset by the increase in cargo amounts and changes in exchange rates. Other Company revenues also decreased compared to the same period last year, mainly as a result of onetime revenue listed in the fourth quarter of 2008. Operating costs dropped 9.6% relative to the same quarter last year, mainly as a result in the 4.4% drop in jet fuel market prices compared to the same period last year, and the decrease in hedging payments. The fair value increase of jet fuel transactions not recognized as hedging agreements compared to their value at the end of the previous period also reduced fuel costs. Salary costs increased 10.8%, caused mainly from the revaluation of the NIS relative to the USD in the reported period versus the same period last year and form an increase in Company activity. The decrease in the number of employees and overseas salaries offset the increase in salary expenses. Gross profits amounted to $51.1 million in he reported quarter, 12.4% of turnover compared to a gross profit of $61.5 million, 13.3% of turnover, in the same quarter last year. Selling expenses decreased 6.2% mainly as a result of the drop in distribution expenses as well as reduced salary costs. General and administrative expenses increased by 13.8%, mainly as a result of an increase in consulting and services expenses. Other net expenses in fourth quarter of 2009 amounted to $14.0 million compared to other revenues $17.7 million in the same quarter last year. Most of these expenses derived from the listed decrease in value of 757 aircraft, 747-200 engines as well as the write-off of investment in security equipment made in the past which bore no fruit. The fourth quarter of 2008 saw one-time revenue from the cancellation of a one-time productivity provision as well as revenues listed from an update to the provision pertaining to cargo claims and capital differentials from the realization of fixed assets.
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The Company listed an operating loss before financing in fourth quarter of 2009 to the amount of $31.8 million, 7.7% of turnover compared to a $10.7 million operating profit, 2.2% of turnover in the same quarter last year. Net financing costs decreased 87% relative to the same quarter last year. Interest expenses due to bank loans decreased as a result of the drop in LIBOR rates, as well as reduced expenses for interest hedging. In addition, in this quarter the Company saw incomes from exchange rate differential hedging versus an expense due to this component in the same quarter last year. At the same time, exchange rate differential and deposit interest incomes decreased. Tax benefits saw an increase deriving from the increase in net deferred tax liability, mainly as a result of the fair value increase of financial transactions recognized as hedging offset by deferred tax incomes listed as a result of the quarterly loss. In total, in the fourth quarter of 2009 the Company listed a loss after taxes of $29.0 million compared to a loss of $10.1 million in the same period last year.
a.4
Effect of Changes in the Exchange Rate on the Company's Accrued Severance Pay liability
In 2009 the exchange rate of the shekel appreciated against the dollar by 0.7%, compared with appreciation in the exchange rate of the shekel against the dollar of 1.1% in 2008. In the three month period ending December 31 2009 the exchange rate of the shekel depreciated against the dollar by 0.5%, compared with depreciation in the exchange rate of the shekel against the dollar of 11.1% in the same quarter last year. Change in US Dollar Exchange Rate:
4.5 4.188 3.846
4.2
3.919
3.802
3.758 3.775
3.553 3.352
3.9 3.6
3.421
3.3 3.0 31.12.09
30.09.09
30.06.09
31.03.09
31.12.08
30.09.08
30.06.08
31.03.08
31.12.07
The Company has an obligation to its employees for severance pay, retirement plans, sick pay, and vacation pay as of December 31, 2009 of $80 million. Since most of these obligations are denominated in shekels, whereas the functional currency of the Company is the dollar, these obligations must be translated into dollars, which causes differences deriving from changes in the exchange rate of the shekel against the dollar. Exchange rate changes are not one-directional, and cause the listing of incomes or expenses in the Company's Financial Statements. These incomes or expenses do not impact cash flow or operating costs of the Company in the short run. In order to enable a comparison of the Company's business results for the long run, these incomes or expenses should be neutralized. 2009 saw a decrease in the expenses for this element to the amount of $0.3 million, compared with 2008, in which the expenses for this element amounted to $2.4 million.
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In the quarter ending December 31 2009 expenses due to this component decreased by $0.3 million, compared to the same quarter last year, during which expenses for this component decreased by $6.5 million. Presented below are details of the business results, after neutralizing the effect of the exchange rate on the accrued severance pay element, as described above: Before After neutralizing the exchange-rate effect on the accrued severance pay For year ended 31 December :
2009
Operating expenses Gross profit Gross profit rate Selling, general and administrative expenses Other operating expenses, net Operating loss before financing expenses Operating loss rate before financing Loss for the year Loss for the year rate
2008 2009 (in thousands US dollars)
2008
1,444,250 1,776,329 1,444,222 1,776,030 211,583 319,997 211,611 320,296 12.8% 15.3% 12.8% 15.3% 271,524 324,676 271,616 324,645 (15,027) (975) (15,265) 1,121 (74,968) (5,654) (75,270) (3,228) (4.5%) (0.3%) (4.5%) (0.2%) (76,300) (41,907) (76,602) (39,481) (4.6%) (2.0%) (4.6%) (1.9%)
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a.5
Segment Reporting
Presented below are operational segment data on a consolidated basis: A.
General
The Group has applied IFRS 8, "Operating Segments" (hereinafter "IFRS 8") starting January 1 2009. According to IFRS 8, operational segments are identified based on internal reports on the Group's components, which are reviewed on a regular basis by the Group's chief operating decision maker for the purpose of allocating resources and assessing the performance of the operational segments. On the other hand, the previous standard (IAS 14, "Segment Based Reporting") required that entities recognize two segment arrays (business and geographical), based on the risk and yield method, with the internal financial reporting system for the entity's key administrative personnel serving only as an starting point for the recognition of the above segments. As a result of the adoption of the new standard, the Group has recognized reportable segments different from those presented in earlier reporting periods. The report array conveyed to the Group's chief operating decision maker, for the purpose of allocating resources and assessing the performance of the operational segments based on the difference between revenues from passenger aircraft, cargo aircraft, charter flights (mainly to subsidiary Sun D'Or) and other revenues. In light of the above, the following are the Company's reported operating segments in accordance with IFRS 8: Segment A - passenger aircraft activity. Segment B - cargo aircraft activity. Passenger aircraft activity includes revenues (without deducting discounts) from the transport of passengers including baggage, transporting cargo in the holds of passenger aircraft, mail transport and from the sale of duty free products. Expenses charged to this segment include variable expenses involved in operating the flights, mainly fuel costs (not including changes in fair value of jet fuel hedging agreement), passenger and cargo handling, airport taxes and fees variable maintenance costs, air navigation and communications fees, passenger food and supplies, aircraft leasing fees, discounts and commissions given to passengers or paid to travel agents, air crew expenses including salaries and variable security costs. Cargo aircraft activity includes revenues from airborne cargo shipping fees. Expenses charged to this segment are the variable expenses for the operation of these flights mentioned above. Other Company activities include revenues from rental of aircrafts to subsidiary Sun D'Or (which are written off in the "Adjustments to Consolidated" column), revenues from maintenance service provided to outside elements as well as a broad variety of services and revenues such as equipment leasing, frequent flier membership fees, loading and unloading services and more. The variable expenses involved in the creation of any sort of revenue are charged to these revenues. Unassigned expenses include primarily depreciation expenses, salary expenses - with the exception of air crews – and other fixed costs. Information referring to these segments is reported in B below. Sums reported for previous reporting periods were restated according to the new segment reporting basis. The Company's chief operational decision maker does not receive reports regarding measurement of segment assets and therefore, in accordance with the revision to IFRS-8, this information is not included in the segment reporting.
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B.
Analysis of income and results by operating segments: For year ended : 31.12.2009
operating revenues revenue from external customers inter-segment revenues Adjustment to consolidataed Total segment revenues
passenger aircraft
operating revenues revenue from external customers inter-segment revenues Adjustment to consolidataed Total segment revenues
others
Adjustment
Total consolidated
in thousands US dollars
1,489,496 1,489,496
335,581 segment results Unassigned expenses Operating loss before financing Financing expenses Financing income Company's share in the profits of affiliates, net Loss before income taxes Income taxes Loss for the year
For year ended : 31.12.2008 *
cargo aircraft
passenger aircraft
58,317 58,317
37,874 68,051 105,925
(2,014)
41,294
cargo aircraft
others
(68,051) 70,146 2,095
1,585,687 70,146 1,655,833 374,861 (449,829) (74,968) (30,297) 3,999 442 (100,824) 24,524 (76,300)
Adjustment
Total consolidated
in thousands US dollars
1,831,961 1,831,961
139,500 139,500
436,258 segment results Unassigned expenses Operating loss before financing Financing expenses Financing income Company's share in the profits of affiliates, net Loss before income taxes Income taxes Loss for the year
8,662
b-15
51,100 76,400 127,500 57,676
(76,400) 73,765 (2,635)
2,022,561 73,765 2,096,326 502,596 (508,250) (5,654) (61,566) 16,969 543 (49,708) 7,801 (41,907)
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
For year ended : 31.12.2007 *
operating revenues revenue from external customers inter-segment revenues Adjustment to consolidataed Total segment revenues
cargo others Adjustment Total aircraft consolidated in thousands US dollars
passenger aircraft
1,636,378 1,636,378
210,290 210,290
435,364 segment results Unassigned expenses Operating profits before financing Financing expenses Financing income Company's share in the profits of affiliates, net Profits before income taxes Taxes expenses Profits for the year
(*)
41,134 45,570 86,704
7,147
(45,570) 32,205 (13,365)
46,044
1,887,802 32,205 1,920,007 488,555 (402,962) 85,593 (56,062) 19,469 332 49,332 (11,307) 38,025
Retroactive implementation of change in accounting policy –see Note 3d to the ` Financial Statements
2009 saw a decrease in revenues and in contributions to the passenger and cargo aircraft segments relative to 2008. In addition, revenues and contributions from other activities decreased as well. Revenues from passenger planes decreased mainly from the drop in ticket prices as detailed in a.3 above, as well as the revaluation of the dollar relative to other currencies. Revenues from cargo aircraft decreased relative to 2008 as well, primarily as a result of the global slump in air cargo transport which led to a drop both in the amount of cargo shipped and in the average price per ton of cargo and as a result for the discontinuation of East Asian cargo activity in the third quarter of 2008. The contribution decrease in these two areas of activity derive from the reduction in revenue, while the decrease in operating costs was lower, as detailed in a.3 above. C.
Analysis of revenues by destination: America
Europe
Operating revenues Non-segment revenues Total consolidated revenues
547,639
797,327
230,468
38,334
1,613,768 42,065 1,655,833
Year 2008 * Operating revenues Non-segment revenues Total consolidated revenues
712,029
995,984
296,591
46,650
2,051,254 45,072 2,096,326
Year 2007 * Operating revenues Non-segment revenues Total consolidated revenues
670,129
816,625
354,921
41,786
1,883,461 36,546 1,920,007
Year 2009
* Restated – see Note 3d to the Financial Statements.
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Central Asia Rest of & Far East the world in thousands US dollars
Total
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
2009 saw a decrease in revenues from all destinations compared to 2008. "American" destinations saw a 23% decrease, flights to and from Europe saw a 20% drop in revenues, flights to Central and East Asia saw a 22% drop and "the rest of the world" saw a 18% decrease relative to 2008. As noted above, most of the decrease in revenues derives from the drop in ticket prices and from the drop in cargo revenues in 2009 relative to 2008. Unassigned revenues decreased, mainly as a result of the decrease in services provided foreign companies.
a.6
Seasonal Factors
The Group's activity is seasonal and focuses on peak periods. Heavy traffic of Israeli residents traveling abroad occurs primarily during the summer months and during holidays, while heavy incoming tourist traffic occurs during the summer months and during Jewish or Christian holidays or vacation time in their countries of origin. The peak of the Group's activity is in the third quarter, when revenues constituted in 2009, 2008, and 2007 constituted 30%, 29%, and 30% respectively of total yearly revenues. Revenues according to quarters and percentage of turnover in 2009 (in millions of dollars): 600 500 400
50%
496.1 346.7
413.7
399.3
300
30% 30.0%
200 100
20.9%
25.0%
24.1%
0
20% 10%
Q1‐09
a.7
40%
Q2‐09 revenues
Q3‐09
Q4‐09 % of revenues
Liquidity and Financing Sources
Cash flows from operating activities Cash flows used for investing activities Cash flows from (used for) financing activities Net increase (decrease) in cash and cash equivalents
Jan - Dec 2009 in thousands US dollars
Jan - Dec 2008 in thousands US dollars
change in thousands US dollars
22,399 (9,626) 43,314 56,087
118,875 (135,097) (19,848) (36,070)
(96,476) 125,471 63,162 92,157
Operating Activities The decrease in the Company's cash flows from operating activities in 2009, compared to the previous year, derives mainly from non-cash flow revenues as a result of the change in the fair value of financial assets and liabilities by way of gain/loss to the amount of $23.5 million, compared to noncash flow losses from the same components to the amount of $65.1 million in 2008. In addition, the tax benefit increase compared to 2008 along with the pre-tax yearly loss. Conversely, depreciation and amortization expenses increased in the reported period, including from the impairment of fixed assets.
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Investment Activities In the year ended December 31, 2009, the Company invested $178.7 million in fixed assets and in engine overhauls ($126.0 million of which was for the purchase of new aircraft). Conversely, the Company saw $146.0 million from the realization of restricted deposits and a $22.8 million proceeds from the realization of fixed assets. In total, the Company used $9.6 million in 2009 for investment activity. In 2008, the Company used $159 million for the purchase of fixed assets and $153.0 million for restricted deposits for jet fuel hedging. Conversely, the Company repaid net short term loans to the amount of $172.8 million and a total of $9.7 million was received as proceeds from the sale of fixed assets. Overall, the Company used $135.1 million for investing activities in 2008. Financing Activities In the reported period, the Company received loans to finance the purchase of three new Boeing 737800 planes to the amount of $113.3 million, as well as an increase in short term credit frameworks amounting to $12.1 million. The Company repaid loans and paid loan raising costs to the amount of $82.0 million. In total the Company received $43.3 million from financing activity in 2009. In 2008, the Company used $65.3 million to repay long-term loans, and paid its shareholders $3.1 million in dividends. In addition the Company received a long-term loan to the amount of $36.0 million from an overseas banking corporation for the purchase of a Boeing 747-400 aircraft, and in addition the Company used a short term credit framework to the amount of $12.5 million in 2008. In total, $19.8 million were used for financing activity in the 2008. The cash and cash equivalents and short-term investments balance as of December 31, 2009 totaled $114.6 million, compared with $58.4 million as of December 31, 2008. In addition, on December 31 2009 the Company had restricted deposits for jet fuel hedgers totaling $7.0 million, compared to $153.0 million in restricted deposits on December 31 2008. The average amount of Company bank loans over the course of 2009 amounted to $786 million ($756 million in 2008). The average amount of Company trade payables during 2009 was $139 million ($167 million in 2008). The average amount of credit given by the Company in its receivables during 2009 was $128 million ($160 million in 2008).
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b. b.1
Exposure to and Management of Market Risks
Qualitative Reporting on Exposure to and Management of Market Risks
b.1.(1) General – Description of Market risks to which the Company is Exposed
Presented below is a summary of the market risks to which the Company is exposed: Changes in prices of jet fuel – Jet fuel constitutes a significant element of the Company's operating expenses, having a material effect on the Company's profitability. In the Company's estimation, at its current level of activity, every increase of $0.01 in the price of a gallon of jet fuel during an entire year increases the Company's fuel expenses by $2.3 million, and in addition, this change impacts the amount of collateral the Company is required to deposit with jet fuel hedgers. The Company has taken hedging measures to reduce the exposure, as detailed in b.1.(3) below. Exposure to changes in interest rates – Most of the Company's long-term loans are at variable interest. Therefore, an increase in the LIBOR rate could impact the Company's profitability. At the present level of activity, every 1% increase in the Libor rate for a full year increases the Company's financing expenses by $6.9 million. The Company has adopted hedging measures to reduce the exposure, as provided in Section b.1.(4) below. Currency exposure – Most of the Company's revenues and expenses are in foreign currency (mainly the U.S. dollar), except for several shekel expenses, mainly salary expenses paid in Israel. Accordingly, a change in the shekel/dollar exchange rate influences the Company's shekel expenses in dollar terms. In the Company's estimation, at the present level of activity, appreciation of the exchange rate of the shekel relative to the dollar of each 1% for an entire year increases the Company's annual expenses by $3.5 million. Likewise, a surplus of receipts exists for payments in Euro, but at insignificant rates. The Company has adopted hedging measures to reduce the exposure, as provided in Section b.1.(5) below. Exposure in long-term loan frameworks– According to the provisions of the loan agreements, the Company must maintain a minimal collateral ratio between the market value of the planes and the balance of the loans that financed their purchase. Likewise, the Company is required to comply with certain covenants, which, if not complied with, the Company could be demanded to immediately repay the loans. The Company's exposure to market risks in this area derives from the changes that occur in the market value of planes globally, due to exceptional security events, and to the oversupply of seats on airlines in the world. See Notes 22.g.1, 16.g and 36 to the December 31 2009Financial Statements for further details.
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b.1.2 El Al Market Risk Management Policies, Officials Responsible for their Management and Means of Controlling and Executing Policy
The Company has a Board of Directors committee for market risks, management headed by the chairman of the finance, budget and Financial Statements committee, Mr. Nadav Palti, who is responsible for prescribing the policy for covering the existing exposure. The CFO is responsible for executing the policy and reporting to the market risks management committee. The Company has continued to hold regular meeting of the market risks management committee in 2009. From time to time, the Market Risk Management Committee evaluates the Company's status in the area of jet fuel, interest and exchange rate exposure, the need to invest in derivatives, to reduce the exposure in accordance with policy, as well as the financial instruments used to perform the required hedging. The Company's policy as regards jet fuel hedging is as follows: hedging jet fuel quantities for up to 24 months forward, so that for every period, a minimum and maximum percentage to be hedged out of total expected consumption gradually decreases. Therefore, the maximum hedge percentage at the beginning of the period is 80% and the minimum percentage at the end of the period is 20%. The Company's policy with respect to interest hedging is to hedge about half of the Company's credit portfolio, so that half will be at variable interest and half at fixed interest, for a period of up to 5 years. The Company's policy with respect to exchange rates is to hedge up to half of its shekel exposure for one year forward. From time to time the Market Risk Management Committee instructs Company Management to exceed these rates set for jet fuel, interest and exchange rates for limited periods of time in accordance with market developments. For details on the policy adopted, see Sections b.1.(3), b.1.(4) and b.1.(5) below. For details of the influence of the changes in the economic environment, the implications of the crisis in capital markets and market risks after the balance sheet date, see Section e.5 below.
b.1.(3) Hedging Jet Fuel Prices
The Company executes financial transactions to hedge against changes in jet fuel prices, in accordance with its policy as described in Section b.1.(2) above. As of December 31, 2009, the Company entered into several agreements, in order to hedge jet fuel prices, at 43% of expected consumption in 2010 and 17% of expected consumption in 2011. All of these transactions valid as of December 31 2009 are recognized as hedging agreements for accounting purposes. The fair value of all jet fuel hedging instruments as of December 31 2009 is a net negative sum of $43.1 million, presented in the Financial Statements in the framework of current liabilities and long term liabilities under "Derivative Financial Instruments." The Company paid a total of $103.3 million for these hedging agreements in 2009. For further details see Note 31.g to the December 31 2009 Financial Statements. For details regarding changes occurring subsequent to the balance sheet date, see Section e.2 of the Board of Directors report.
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b.1.(4) Hedging Interest on Loans
The Company executes hedges of the exposure in its long-term credit portfolio, due to changes in interest rates, in accordance with its policy as laid out in Section b.1.(2) above. Some of these financial instruments are recognized for accounting purposes as hedge transactions and some are not. The fair value of these instruments as of December 31, 2009 is a negative sum of $24.0 million, which is presented in the Financial Statements in the framework of current liabilities and long term liabilities under "Derivative Financial Instruments." The Company paid $5.5 million in refunds for these hedging agreements in the reported year. After executing these hedges, as of December 31, 2009, 44% of the balance of the Company's loans is at fixed interest rates for a period of up to 3 years. In addition, in the second quarter of 2009 the Company received $113.3 million in loans for a period of 12 years which constitutes, as of December 31 2009, 14% of all of the Company's loans. For further information see Note 22.d.4 to the Financial Statements. For additional information on these transactions, see Note 31.f to the December 31 2009 Financial Statements. For information on changes occurring subsequent to the balance sheet date, see Section e.2 of the Board of Directors Report below.
b.1.(5) Exchange Rate Hedges
In August 2009 the Company entered into financial transactions intended to protect the Company from drops in the exchange rate of the USD vs. the NIS for a 15 month period, in accordance with its policy as explained in Section b.1.(2) above. These transactions are recognized as hedging agreements. The fair value of these instruments as of December 31 2009 is $4.7 million, presented in the Financial Statements as part of current and non-current assets under "Derivative Financial Instruments". In 2009 the Company received refunds for these hedging agreements to the amount of $2.6 million. For additional information on these transactions, see Note 31.e to the December 31 2009 Financial Statements. For information on changes occurring subsequent to the balance sheet date, see Section e.2 below.
b.1.(6) Sensitivity Analysis Reporting
Presented below is a sensitivity analysis of the fair value of the financial instruments sensitive to possible changes in the risk factors to which they are exposed. The sensitivity analyses were performed relative to the fair value of the financial instruments as of December 31, 2009. Presented below is a description of the models for examining the fair value sensitivity of the various financial instruments:
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1.
Interest hedge – Interest hedges are executed by means of financial instruments opposite Israeli banks. The underlying asset for these transactions is the Libor (London Inter Bank Offered Rate) rate as published on the "Reuters" screens for various periods (3 months, 6 months, year), whereby the interest return on the Company's variable-interest loans (plus a margin). Interest hedges are executed "back to back", in order not to create additional exposure of timing differences between the expiration date of the transaction and actual payment against the existing loans, so that the settlement dates match the repayment dates of the loans. On the loan repayment dates, the settlement amount is calculated for the next period, according to the market interest that prevailed on the two prior business days, and based on the structure of the transactions as determined in advance. Existing interest hedges include options and fixing interest rates (IRS). The fair value of interest hedges is calculated according to the projected Libor rate. In interest hedges in which the interest rate is fixed, the fair value is determined based on the difference between the projected interest and the interest published periodically by the world's leading banks, for the interest stated in the transaction, multiplied by the size of the hedge in each period. In hedge transactions that include options, the fair value is determined based on mathematical formulas for pricing options in recognized models.
2.
Exchange rate hedge – Exchange rate hedges of the Company are executed through financial instruments opposite banks in Israel, similar to interest hedges. The underlying asset for these transactions is the representative exchange rate for dollar/shekel fixed by the Bank of Israel. Dollar/shekel exchange rate hedges are executed in order to hedge the shekel flow exposure as detailed in b.1.(5) above. The scope of the annual exposure is $350 million. The transactions are monthly, corresponding with the conversion dates of dollars to shekels for the purpose of paying salaries. The transactions conducted by the Company in 2009 are forward transactions, with the Company receiving a refund if the exchange rate falls below an established level on a determining date, level, and pays if the exchange rate exceeds an established level on the determining date. These transactions are recognized as hedges for accounting purposes. The fair value of these transactions is calculated based on mathematical formulas for pricing options in recognized models.
3.
Jet fuel hedges – Jet fuel constitutes the most material component of Company expenses. Jet fuel hedge transactions are executed by the Company through trading in financial instruments opposite the leading financial institutions and banks in the world engaged in this market (Morgan Stanley, Goldman Sachs, Barclays). The underlying asset in these transactions is jet fuel in the various markets that serve as the basis for determining the jet fuel prices that the Company actually pays, and mainly Jet Aviation FOB Med. In addition to this market, the Company purchases jet fuel according to its price in other markets, of which the key ones are: US Gulf Coast, North West Europe, Singapore. Jet fuel is an essential raw material for the Company for its operations – the Company is obligated to purchase the raw material in order to fly its planes, and there is no substitute or ability to maneuver between the costs of these raw materials and other raw materials. The price of jet fuel is very volatile. The market price of jet fuel is determined according to several parameters, including: Crude oil prices include market expectations and supply and demand. The pace of demand for oil and it products has risen in recent years, due to the global growth (especially the growth rate in China). The supply of oil and its products is limited physical and infrastructure factors (oil reserves, production infrastructures, refining, storage, transport, etc.), and by geopolitical and cartel influences of the large oil producers (OPEC). The marginal cost for fuel production is different at various levels of production, increasing along with the required level of production (as an example, the cost of producing a barrel of oil via deep sea drilling is three or four times the cost of producing a barrel of oil from Arabian oil wells). At the end of 2008 and in the first half of 2009, as a result of the global financial crisis, a drop occurred in predicted future demand for
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petroleum products. In the final months of 2009 we've observed increased demand and higher process. Price fluctuations – Due to the meeting of the limited supply and the surging demand in recent years, any change, or expectations for change, in one of these factors, causes strong price fluctuations (such as: levels of economic activity and global growth, wars and terrorism, shutdowns and problems at large oil refineries, international relations and more). The following table shows the fluctuations in cure oil prices over the past three years:
Prices are in USD per barrel of crude oil Seasonal demand for various crude distillates, including jet fuel (In the winter there is high demand for heating oil; in the summer there is high demand for gasoline. Likewise, transport costs vary, conforming to seasonal risks in sea shipping). Production cost and infrastructure limitation – Distillate prices vary according to various constraints of the oil refining industry, refining infrastructures, storage and transport of oil and its products are limited, cost of their development is very high and their expansion takes many years (construction of a refinery takes 5-7 years). Moreover, future prices for oil and its derivatives (including jet fuel) are affected strongly also by the power of the financial demands of institutional investors and speculators, which include these products in their investment portfolios. In recent years, due to various reasons (including those mentioned above), the risk embedded in the markets and the price fluctuations are very high. In recent quotes received by the Company, a very high standard deviation was derived. In view of the behavior of the markets, investment houses and the world's leading analysts are having difficulty in precisely and consistently estimating the price-change trends. The forecasting ability of the various investment houses and analysts represent, at most, the immediate current estimate of the macroeconomic influences prevailing when the estimate was made. Furthermore, these estimates are calculated according to the different economic analyses of each analyst and investment house. Even the Forward curve structures are non-predictive, and at most, they represent the expectation and risk level embedded in the markets. According to the structure of the Company's hedge transactions, on the settlement date vs. the financial entity with which the hedge was executed (settlement date of the trade), a calculation is made of the transaction's strike price vs. the average monthly price of the underlying asset (Asian options) (published by Platts, a division of McGraw-Hill companies, which is the authorized and
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leading international party for providing data services on the energy market) and constitutes an accepted point of reference with respect to the trading of oil and its derivatives. The payment or receipt for the transactions is based on the transaction's structure as designated in advance. The financial instruments traded by the Company (mainly options on jet fuel) are traded over-thecounter (OTC) between the Company and the financial entities opposite which the trade is executed, and are not contracts traded directly on various exchanges. The future price of the jet fuel, as traded in these instruments, is comprised of three main elements: crude oil price, the Fuel crack and the jet differential. Each of these three elements is actually traded separately (between financial institutions and brokers), and priced separately. The pricing of each of the elements is affected by various factors, including the current price, duration, price fluctuations, supply and demand, seasonal factors, storage costs, transport, etc., and has a different effect on the overall price change of jet fuel. This pricing is done differently by every financial entity, according to models and algorithms that they developed (based on models such as Black & Scholes, Monte Carlo, etc.), opposite the investment portfolio of that party. As is accepted in this field by global aviation companies, the companies obtain the fair value estimates from the investment houses opposite which they execute the trades. These investment houses use macroeconomic models that take into account the individual behavior of each element, the proportionate mix in the formula among the elements, the individual fluctuation of each element, the cross influence between prices and fluctuation and between supply and demand (supply and demand flexibility), future development of production, refining, storage and transport (tankers and pipes) capabilities, geopolitical forecasts in the world and the behavior of the cartels, macroeconomic models of global growth rates and demand for energy sources, forecasts for changes in interest and exchange rates, forecasted production of alternative energy sources for the materials being discussed, the behavior of the financial markets in connection with trade in the relevant securities and derivatives and other factors. All the above elements are processed according to economic models that were developed by the different investment houses that own them. These models are capable of generating estimates and forecasts, with the qualification that they are correct as of the moment they are generated. Some of the investment houses use the "Monte Carlo" simulation model on these estimates, in order to predict the future price/value expectancy. In this report, we rely on these calculations as prepared by the different financial entities opposite which the transactions were executed (Goldman Sachs, Morgan Stanley, Barclays) and were sent to us. The sensitivity analysis for fair value was prepared under the assumption of a uniform change in the final price of jet fuel over the entire future price curve, at margins of 5%, 10% - up and down. Near the beginning of 2009 a daily change of 14% was listed, so as a result the jet fuel hedging sensitivity table presented below shall also include a 15% change in jet fuel prices scenario. The following is an analysis of the sensitivity of the fair value of the financial instruments sensitive to changes possible in the risk factors to which they are exposed. The analyses are relative to the fair value of the financial instruments as of December 31 2009.
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Presented below are sensitivity analysis tables for instruments sensitive to changes in market factors: A.
Sensitivity to changes in shekel/dollar exchange rate – thousands of dollars: Gain (loss) from changes
Gain (loss) from changes
Increase 10% Increase 5% Fair value Decrease 5% Decrease 10% 4.153 3.964 3.775 3.586 3.398 NIS/$ NIS/$ NIS/$ NIS/$ NIS/$ Cash and cash equivalents Short-term deposits Trade receivables Other receivables Current derivative financial instruments Long-term bank deposits Total financial Assets Trade payables Other payables Total financial liabilities Exposure in linkage balance sheet due to surplus financial liabilities over financial assets*
(772) (721) (72) (538)
(404) (378) (38) (282)
8,494 7,933 788 5,915
447 418 41 311
944 881 88 657
(431) (167) (2,701) 2,282 165 2,447
(226) (88) (1,416) 1,195 87 1,282
4,737 1,839 29,706 (25,099) (1,819) (26,918)
249 97 1,563 (1,321) (96) (1,417)
526 204 3,300 (2,789) (202) (2,991)
(254)
(134)
2,788
147
309
* Does not include exposure for the effect of the changes in the exchange rate on assets and liabilities due to employee benefits, as provided in Section a.4.
B.
Sensitivity to changes in euro/dollar exchange rate – thousands of dollars: Gain (loss) from changes
Gain (loss) from changes
Increase 10% Increase 5% Fair value Decrease 5% Decrease 10% 0.763 0.728 0.694 0.659 0.624 Euro/$ Euro/$ Euro/$ Euro/$ Euro/$ Cash and cash equivalents Trade receivables Other receivables Total financial Assets Short-term borrowings and current maturities Trade payables Other payables Total financial liabilities Exposure in linkage balance sheet due to surplus financial liabilities over financial assets*
(681) (846) (159) (1,686)
(357) (443) (83) (883)
7,496 9,301 1,744 18,541
395 490 92 977
833 1,033 194 2,060
47 2,118 294 2,459
25 1,109 154 1,288
(521) (23,298) (3,231) (27,050)
(27) (1,226) (170) (1,423)
(58) (2,589) (359) (3,006)
773
405
(8,509)
(446)
(946)
* Does not include exposure for the effect of the changes in the exchange rate on assets and liabilities due to employee benefits, as provided in Section a.4.
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C.
Sensitivity to changes in jet fuel prices on inventory (dollar/gallon) – in thousands of dollars: Gain from changes
Type of instrument
Loss from changes
Increase 10% Increase 5% Fair value Decrease 5% Decrease 10% 2.287 2.183 2.079 * 1.975 1.871 $/gallon $/gallon $/gallon $/gallon $/gallon
Jet fuel Inventorie
1319
659
13,186
(659)
(1,319)
* Jet fuel prices according to moving average as of December 31 2009.
D.
Sensitivity of jet fuel hedge to changes in jet fuel prices – in thousands of dollars:
According to the model's principles, jet fuel hedges that react in a similar manner to market factors were grouped together, since there was no loss of material information required to understand the Company's exposure to market risks as a result of the grouping. On January 5 2009 jet fuel prices changed by 14%, and therefore the following sensitivity analysis includes a 15% change in jet fuel prices. Gain from changes
Type of instrument
Increase 15%
SWAP transactions designed for hedging
Increase 10%
Loss from changes
Increase 5%
Fair value*
Decrease 5%
Decrease 10%
Decrease 15%
2.322
2.221
2.120
2.019
1.918
1.817
1.716
$/gallon
$/gallon
$/gallon
$/gallon
$/gallon
$/gallon
$/gallon
46,565
31,043
15,522
(43,084)
(15,522)
(31,043)
(46,565)
* The price of jet fuel in the Mediterranean basin as of December 31 2009, according to which the fair value of the Company's hedge transactions is computed.
E.
Sensitivity of an interest hedge to changes in market interest rates – in thousands of dollars:
According to the principles of the model, the Group executed interest hedges that respond in a similar way to market factors (IRS agreements intended for hedging, IRS agreements not intended for hedging), since no loss of significant information is sustained that is required to understand the Company's exposure to the market risk, as a result of the grouping. On December 16 2008 a 75% change occurred to the dollar monetary policy, and therefore the following sensitivity analysis led to a 75% change in interest rates. Gain from changes
Type of instrument
SWAP transactions with KNOCK OUT not designed for hedging IRS transactions designed for hedging IRS transactions not designed for hedging Cylinder transactions not designed for hedging Total
Loss from changes
Increase Increase Increase 75% 10% 5% in interest in interest in interest rate rate rate
Decrease Decrease Decrease 5% 10% 75% Fair value * in interest in interest in interest rate rate rate
0.18
0.02
0.01
(1,537)
(0.01)
(0.03)
(0.18)
142
19
9
(3,559)
(9)
(18)
(144)
8,225
1,133
536
(12,129)
(578)
(1,144)
(8,723)
1,156 9,523
166 1,319
77 622
(6,745) (23,970)
(74) (661)
(146) (1,308)
(1,156) (10,023)
* Fair value was calculated according to the market Libor rate as of December 31 2009, at the following rates: 3month Libor: 0.25%, 6-month Libor: 0.43%, and 12-month Libor 0.98%, all as applicable and according to the relevant transaction.
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F.
Sensitivity of NIS/USD exchange rate hedge to changes in market interest rates – in thousands of dollars: Loss from changes
Type of instrument
FORWARD transactions designed for hedging
Gain from changes
Increase 10% in 4.153
Increase 5% in 3.964
Fair value NIS/$ 3.775
Decrease 5% in 3.586
Decrease 10% in 3.398
(15,000)
(7,500)
4,737
7,500
15,000
* The sensitivity analysis was carried out in shekel terms, and the profit or loss in the event of a 5% or 10% decrease or increase was translated according to an exchange rate of 3.775 NIS per USD on December 31 2009.
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b.2
Linkage Basis Report
The following is the consolidated linkage basis report for December 31 2009: In, or linked to the US dollar
Assets Cash and cash equivalents Short-term deposits Restricted deposits Trade receivables Other receivables Current derivative financial instruments Prepaid expenses Inventories Non current bank deposits Investments in affiliated companies Investments in another company Non current derivative financial instruments Fixed assets, net Intangible assets, net Non current prepaid expenses Assets due to employee benefits Liabilities & Equity Current borrowings and current maturities Trade payables Other payables Current provisions Current derivative financial instruments Current employee benefit obligations Current unearned revenues Non current loans from financial institutions Non current employee benefit obligations Non current derivative financial instruments Non current other payables Deferred taxes Non current unearned revenues Shareholders’ equity Monetary assets, net of monetary liabilities (monetary liabilities, net of monetary assets)
80,342 7,003 92,993 7,119 6,469
In Israeli currency
In, or linked to In, or linked to Non-monetary the euro the other items currencies (in thousands US dollars)
8,494 7,933
7,496
10,355
788 5,915 4,737
9,301 1,744
9,004 1,377 24,873 21,947
1,839 648 1,357 2,255 1,312,930 7,504 2,578 118 197,656 (105,437) (69,030) (46,010) (5,911) (55,643) (2,819)
34,383 64,089
(25,099) (1,819) (51,306) (77,671)
18,541
20,736
(521) (23,298) (3,231)
(58) (11,543) (3,384)
(510)
(379)
1,370,480
(204,444) (704,194) (7,794) (20,135) (13,318)
(52,035)
(893)
(5,113)
(1,030,291)
(207,930)
(28,453)
(20,477)
(5,313) (50,813) (123,781) (384,351)
(832,635)
(143,841)
(9,912)
259
986,129
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Total
106,687 7,933 7,003 112,086 16,155 11,206 24,873 21,947 1,839 648 1,357 2,255 1,312,930 7,504 2,578 34,501 1,671,502 (106,016) (128,970) (54,444) (57,217) (55,643) (81,379) (204,444) (704,194) (65,835) (20,135) (13,318) (5,313) (50,813) (123,781) (1,671,502)
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The following is the consolidated linkage basis report for December 31 2008*: In, or linked to the US dollar
Assets Cash and cash equivalents Short-term deposits Restricted deposits Trade receivables Other receivables Current derivative financial instruments Prepaid expenses Inventories Non current bank deposits Investments in affiliated companies Investments in another company Fixed assets, net Intangible assets, net Non current Prepaid expenses Assets due to employee benefits Liabilities & Equity Current borrowings and current maturities Trade payables Other payables Current provisions Current derivative financial instruments Current employee benefit obligations Current unearned revenues Non current loans from financial institutions Non current employee benefit obligations Non current derivative financial instruments Non current other payables Non current provisions Deferred taxes Non current unearned revenues Shareholders’ equity Monetary assets, net of monetary liabilities (monetary liabilities, net of monetary assets)
24,496 152,969 83,530 10,467 174
In Israeli currency
In, or linked to In, or linked to Non-monetary the euro the other items currencies (in thousands US dollars)
19,530 7,821
4,187
2,387
306 7,225
11,019 490
11,191 1,511 24,586 11,472
2,189 1,229 1,565
1,507 1,314,182 8,618 3,106
129 274,559
36,648 73,719
(84,746) (74,687) (36,703) (10,410) (108,072) (2,319)
15,696
15,089
(55) (22,214) (3,742) (46,639)
(742) (23,320) (2,451)
(728) (10,672) (1,845)
(84,055)
(927)
(629)
1,363,471
(197,911) (678,657) (7,672) (86,789) (3,297) (11,728)
(62,866)
(856)
(4,832)
(1,105,080)
(219,571)
(28,296)
(18,706)
(1,872) (52,434) (118,664) (370,881)
(830,521)
(145,852)
(12,600)
(3,617)
992,590
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Total
50,600 7,821 152,969 106,046 19,693 174 24,586 11,472 2,189 2,736 1,565 1,314,182 8,618 3,106 36,777 1,742,534 (86,271) (130,893) (44,741) (57,049) (108,072) (87,930) (197,911) (678,657) (76,226) (86,789) (3,297) (11,728) (1,872) (52,434) (118,664) (1,742,534)
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The following is the consolidated linkage basis report for December 31 2007*: In, or linked to the US dollar
Assets Cash and cash equivalents Short-term deposits Restricted deposits Trade receivables Other receivables Current derivative financial instruments Prepaid expenses Inventories Non current bank deposits Investments in affiliated companies Investments in another company Fixed assets, net Intangible assets, net Non current Prepaid expenses Assets due to employee benefits
63,447 172,000 99,917 7,637 21,881
Monetary assets, net of monetary liabilities (monetary liabilities, net of monetary assets)
(*)
18,020 8,633 422 3,912 3,649
In, or linked to In, or linked to Non-monetary the euro the other items currencies (in thousands US dollars)
842
4,361
20,653 4,235
22,625 1,844 32,214 15,981
2,207 1,228 1,715 7,570
1,040
1,285,752 4,388 3,114 375,395
Liabilities & Equity Current borrowings and current maturities Trade payables Other payables Current provisions Dividends offered for payment Current employee benefit obligations Current unearned revenues Non current loans from financial institutions Non current employee benefit obligations Lease fees payable Non current derivative financial instruments Non current other payables Deferred taxes Non current unearned revenues Shareholders’ equity
In Israeli currency
(65,017) (95,781) (37,492) (24,564) (10,361)
34,527 71,370 (292) (26,902) (3,783) (41,955) (3,008) (82,655)
25,730
28,830
(1,007) (27,645) (3,492)
(14,814) (2,418)
(1,067)
(711)
1,342,489
(213,100) (713,793) (6,489) (423) (1,415) (2,278)
(72,512)
(6,536)
(3,741)
(957,613)
(231,107)
(39,747)
(21,684)
(51,182) (50,134) (279,247) (593,663)
(582,218)
(159,737)
(14,017)
7,146
748,826
Total
86,670 180,633 143,617 17,628 25,530 32,214 15,981 2,207 2,268 1,715 7,570 1,285,752 4,388 3,114 34,527 1,843,814 (66,316) (165,142) (47,185) (66,519) (3,008) (94,794) (213,100) (713,793) (89,278) (423) (1,415) (2,278) (51,182) (50,134) (279,247) (1,843,814)
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Retroactive implementation of the change in accounting policy – see Note 3d to the Financial Statements.
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c. c.1
Aspects of Corporate Governance
Charitable Contributions and Community Work
El Al attributes great importance to making charitable contributions and assisting the needy and the community. Within the scope of its activities, the Company donated $100,000 in 2009 ($133,000 in 2008). During 2009, El Al continued the long-standing tradition of action for the community. The activity continued to focus mainly on two channels: 1.
Employee volunteer activities within the scope of the departmental steering committee for the weaker populations, including holocaust survivors without relatives, at-risk children, special-needs children, people with disabilities and the infirm.
2.
Support with money or money-equivalents, for the needy:
c.2
A.
By management – within the framework of the Contributions Committee – the Company contributes considerable sums of money and money-equivalents, such as dozens of hot meals daily, free flight tickets, transport of special cargo free-of-charge and the distribution of food containers. In addition, El Al has joined the Israel Cancer Association's Spark of Hope project, which adopts teachers for sick children hospitalized throughout the country, and has donated to organizations assisting the mentally challenged (AKIM, Etgarim).
B.
El Al has contributed to "Children with a Chance" - summer camps for children removed from their homes to boarding schools around the country.
C.
By the employees themselves - whether in money or money-equivalents (electrical appliances, clothing, books, games, etc.) to kindergartens for special-needs children, battered women shelters, at-risk children dormitories, etc.
Directors with Accounting and Financial Capabilities
A)
Under the Companies Law, 1999, and the regulations enacted under its auspices regarding the reporting about directors with accounting and finance skills, the Company's Board of Directors resolved that the minimum number of directors with accounting and finance skills in the Company would be one-third of the number of directors serving at any time. As of the approval date of the Financial Statements, twelve directors are serving the Company, and therefore, the minimum number of directors with accounting and finance skills is four directors. In the opinion of the Board of Directors, considering the scope and complexity of the Company's operations, this number of directors with accounting and finance skills will enable the Company's Board of Directors to meet the obligations imposed on it, especially as relates to the examination of the Company's financial position, preparation of Financial Statements and their approval. As of the Financial Statement approval date the Company features five directors with accounting and financial skills.
B)
Presented below are the directors who have accounting and finance skills, while stating the facts by virtue of which they are seen as such directors: Prof. Israel (Izzy) Borovich - Served as Chairman of the Board of the Company from January 2005 to the end of November 2008. Professor of Computers and Information Systems. Presently serves as Deputy Chairman of K'nafaim Holdings Ltd and as director at various other companies. Mr. Nadav Palti - Director of the Company since January 2005. Mr. Palti is an accountant by training and serves as Chairman of Mapal Communications Ltd. and as CEO and President of Dori Media Group Ltd. Mr. Yair Rabinowitch - Outside director of the Company since February 2007. Mr. Rabinowitch has been a certified public accountant since 1970. Owns a firm specializing in taxation and finance and in the past served as the managing partner of a large CPA firm, and also served as Commissioner of Income Tax and Property Tax. Served in the past as a member of the Bank of
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Israel advisory committee on banking matters and as a member of the presidency of the Institute of Certified Public Accountants, and also served as a lecturer in institutes of higher education. Professor Yehoshua (Shuki) Shemer – outside director at the Company since November 2008. Prof. Shemer is an expert on internal medicine and medical administration. Serves as Chairman of the Board of Assuta Medical Centers Ltd. since 2005 and has served as CEO of Maccabi Health Services. Mr. Pinchas Ginsburg – a Company director since June 2009. Mr. Ginsburg has a degree in economics and accounting, manages tourism companies and serves on the boards of several companies.
c.3
Disclosure Regarding Independent Directors
The Company has not adopted in its bylaws the ordinance regarding the number of independent directors, in accordance with Section 219 (a) of the Companies Law, 1999.
C.4. Disclosure about Internal Auditor of Reporting Corporation 1.
Information Regarding the Internal Auditor and Compliance with Conditions 1.1.1
Name of Auditor: Gil Ber.
1.1.2
Beginning of tenure: June 1 2009. On this date Mr. Ber replaced Mr. Zvi Koren who served as acting auditor during the six month period from the date the previous auditor Mr. Eli Reich announced he would be concluding his duties for personal reasons.
1.1.3
Qualifications: Accountant, with a degree in Accounting and Business Administration and certified in public administration and auditing (with honors). Holds a CIA (Certified Internal Auditor – U.S.) certificate. Has some 15 years experience in auditing, financial statements and risk management. Until his appointment Mr. Ber was a partner in Cost Forer Gabai & Ksirrer (Ernst & Young) responsible for auditing and risk management and served as Internal Auditor for various companies and organizations. A regular lecturer at the Academic Track of the College of Management on budgeting and control subjects. The Internal Auditor meets all compliance requirements set in Section 3(a) of the Auditing Law. The Internal Auditor complies with Section 146(b) of the Companies Law and Section 8 of the Internal Auditing Law.
2.
1.1.4
The Internal Auditor has no holdings in Company securities or holdings in any related body in the reported year.
1.1.5
Starting from the date of his appointment, the Internal Auditor has had no business connections of any sort with the audited corporation or with any related body, with the exception of serving as Internal Auditor of Group subsidiaries.
1.1.6
The Internal Auditor is employed by the Company as a full-time Company employee.
The Internal Auditor's Appointment 2.1
The appointment of the internal auditor was approved by the Audit Committee on its April 21 2009 meeting and by the Company's Board of Directors on its April 30 2009 meeting and after considering the Auditor's education, skills and experience in auditing and risk management in material corporations.
2.2
The Auditor was given duties and authorities in accordance with the Company's auditing procedure, the directives of which are based on the laws of the State of Israel. Pursuant to this, the Internal Auditor was tasked with proposing a work plan, to carry out an auditing plan accordingly and to distribute, in writing, reports containing findings, conclusions and recommendations.
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3.
The Internal Auditor's Supervisor 3.1
4.
The Internal Auditor is subordinated in the Company to the Chairman of the Board of Directors and the CEO of the Company, in accordance with the Company's bylaws.
Work Plan 4.1
The Internal Auditor's work plan is annual.
4.2
The Internal Auditor's work plan is determined based upon the following considerations: 4.2.1 The risk embodied in an area of activity and profitability of the Company. 4.2.2 The existence of appropriate controls, applicability and efficiency in the audited area. 4.2.3 Proposals of vice-presidents and department heads. 4.2.4 Previous audit findings and pace at which the recommendations submitted were implemented. 4.2.5 The effect of the area on Company profitability, passenger service, the safety and security of passengers, employees and aircraft. 4.2.6 The need for follow-up in order to ensure a proper auditing process.
5.
4.3
Establishment of the work plan involves the Chairman of the Company's Board of Directors, the members of the Audit Committee and the CEO.
4.4
The work plan proposal is received on a yearly basis from by the Chairman of the Company's Board of Directors, the members of the Audit Committee and the CEO. All of them approve the proposal in accordance with Section 149 of the Companies Law.
4.5
The work plan allows the Internal Auditor to exercise his judgment in deviating from the plan.
4.6
The Internal Auditor also examines material transactions and their approval process.
Audits Overseas or for Subsidiaries 5.1
6.
The Company Auditor also serves as the Internal Auditor for all consolidated active companies and therefore the Auditor's work plan takes these companies into account and includes reviews of the Company's overseas activities.
Scope of Employment 6.1
The Internal Auditor is employed full time by the Company and subordinate to him are five full time auditors.
6.2
The following work hours were invested in auditing the Company and its overseas subsidiaries in 2009:
Work hours for the Company's activity in Israel
Work hours for the Company's activity abroad*
6,800
1,500
Work hours due Total Hours to investee companies**
1,000
9,300
*
70% of the Company's work hours for activities abroad were carried out in Israel
**
Audits were conducted for 3 subsidiaries, of which some 600 hours were invested in audits concerning activity outside of Israel.
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7.
8.
Auditing Proceedings 7.1
The Company's Internal Auditor conducts his work in accordance with the Companies Law, 1999, the Internal Audit Law, 1992 and generally accepted professional regulations.
7.2
The Chairman of the Board holds a monthly meeting with the Internal Auditor regarding his work and regarding the professional standards according to which the Auditor operates
7.3
The Audit Committee holds meetings in which it discusses the Internal Auditor's work and the audit standards.
7.4
Prior to the approval of the yearly audit plan the Chairman of the Board meets with the Internal Auditor to discuss the standards according to which the work plan was formulated, following which the audit committee discussed the proposed yearly audit plan and the standards according to which the proposal was formulated and approves it.
Access to Information 8.1
9.
The Internal Auditors have free, continuous and direct access to any document or information held by the Company or by one of its employees, as well as access to any ordinary or computerized data base, to any data base and to any automatic data processing system in the Company, including financial data, as noted in Section 9 to the Internal Audit Law.
Internal Auditor Reports 9.1
The audit reports are submitted in writing.
9.2
The Internal Audit Branch prepared 25 reports in 2009. The audit reports were submitted to the Chairman of the Board, the members of the Audit Committee of the Board of Directors, and to the Company's CEO.
9.3
In 2009, the Audit Committee convened 7 times to discuss the internal audit reports.
10. The Board of Directors' Evaluation of the Internal Auditor's Activity In the opinion of the Board of Directors, the scope, nature and continuity of the internal auditing activities and work plan are reasonable under the circumstances, and they achieve the internal audit objectives of the corporation, since they relate to all of the material and key activities of the Company. 11. Internal Auditor Reports
c.3
11.1
The compensation of the internal auditor is based on the salary and associated benefits granted members of the senior management group and in accordance with Company policy. The extent of compensation for the period starting June 1 2009, the date of the current Auditor's employment, has been 586,320 NIS.
11.2
In the opinion of the Company's Board of Directors, the compensation given to the Internal Auditor and its components do not impair his ability to use independent judgment in carrying out his assignments, inter alia, in view of the fact that the audit work is performed through several Internal Auditors.
Disclosure Regarding Independent Auditors' Fees
On November 30, 2006, the Securities Authority issued a guideline under Section 36.a.(b) of the Securities Law, 1968, regarding disclosure of the independent auditors' fees for audit services and audit-related services, for tax services and for other services. Below are the Company's fee expenses to Brightman Almagor Zohar, CPAs:
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Fees for audit services, audit-related services and tax services: $377 thousand for 9,909 work hours performed in 2009 ($330 thousand for 8,260 hours in 2008). Fees for additional services: $4 thousand for 51 hours of work performed in 2009 ($44 thousand for 582 hours in 2008, primarily for the shelf prospectus). These fees were approved by the Company's Board of Directors and are reasonable and acceptable according to the nature of the Company and the extent of its activities.
c.6
Disclosure in the Report of the Board of Directors regarding the Financial Statements approval process
The body in charge with ultimate control in the Company is its Board of Directors. Within the framework of the Board of Directors, the Company operates several committees, including the Audit Committee, the Market Risks Management Committee, the Human Resources and Appointments Committee, Government Affairs and Regulations Committee and the Finance, Budget and Financial Statements Committee, consisting of four members, including an outside director. As of this report, three out of the four members of the committee have accounting and financial expertise, as defined in the Companies Law, 1999, and the regulations promulgated as a result. A draft of the Financial Statements is sent in advance for the review of the members of the Board of Directors. The Finance, Budget and Financial Statements Committee meets for extensive and thorough discussion of the draft Financial Statements, in the presence of the independent auditor. The Chief Executive Officer and the Chief Financial Officer present the members of the committee with extensive details on the Financial Statements, including detailed financial analyses about the Company's performance during the reporting period. The committee examines the significant financial reporting issues, including material transactions that are not in the ordinary course of business – if any, the significant assessments and critical estimates that were applied in the Financial Statements, the reasonableness of the data, the accounting policy applied and the changes that occurred in them, if any, the application of the principle of fair disclosure in the Financial Statements and various aspects of control and management of risks. When complex or significant issues are on the agenda, special discussions are held by the Finance, Budget and Financial Statements Committee about the matter on the agenda with the participation of the independent auditor. The committee holds a discussion about the Financial Statements presented to it, including directing questions to the members of management present and to the independent auditor. Likewise, the independent auditor is asked to present his comments, if any, to the committee members – including accounting policy applied and special events that arose during the audit. The committee adopts a resolution to recommend to the Company's Board of Directors to approve the Financial Statements, subject to making corrections, changes and supplements – if so requested by the members of the committee. The Financial Statements are presented to the members of the board in a separate meeting, in which the CEO, the CFO and other officers of the Company participate, also attended by the independent auditor. A discussion is also held in this forum regarding the Financial Statements, including questions addressed to the independent auditor and members of the Company's management, and special issues in the reporting period are presented. At the end of the discussion, the Board of Directors adopts a resolution on approval of the Financial Statements.
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c.7
Securities Regulations according to the SOX Model – Effectiveness on Internal Controls of Financial Reporting and Disclosure
On November 24 2009 the Knesset Finance Committee approves the proposal of the Securities Authority to adopt regulations dealing with internal controls on corporate financial reporting and disclosure so as to provide a reasonable amount of certainty regarding the propriety of the reports and their compliance with the law. The Securities Regulations (Periodic and Immediate Reports) (Revision no. 3), 2009 (hereinafter – "the Revision"). The amendment was published in the Knesset's records in December 2009. The purpose of the amendment was to improve the quality of financial reporting and disclosure in reporting corporations using three main elements: 1.
Reports issued by the company's board of directors and management regarding the effectiveness of internal controls of financial reporting and disclosure, this in order to improve the company's internal auditing system.
2.
Issuing personal statements from the Company CEO and senior financial executive according to which the Financial Statements and the other financial information featured in the reports does not contain any misrepresentations of material facts and lacks no required presentation of material facts so that the information contained thereof is not misleading and that to the extend of their knowledge, the financial statements adequately reflect, in all material aspects, the financial status, operating results and cash flow of the company as well as estimating the effectiveness of internal controls of financial reporting and disclosure insomuch as it refers to the financial statements and other financial information featured in the reports.
3.
Attachment of the company's auditing accountant's opinion to the periodic report on the effectiveness of the internal controls on the financial reporting, and on material weaknesses identified in these controls.
These ordinances shall come into effect for the December 31 2010 periodic reports (hereinafter – "the Start Date"). In spite of the above, in accordance with the amendment, in the period starting from the publication of the amendment until the Start Date, the Board of Directors Reports shall feature details regarding the company's preparations and progress in implementing the amendment (hereinafter – "the Project's Implementation"). The following is a description of the Company's preparations and progress in the matter of implementation of the regulations in question: The person responsible on behalf of the Company for implementing the regulations is Mr. Zvi Bergman, Manager reporting and finance control, supervised by a steering committee established in order to implement the Amendment (hereinafter – "the Steering Committee") headed by the Company's CFO, Mr. Nissim Malki. The Steering Committee established a methodology and work plan based on the following basic stages: 1. Mapping processes highly material to the financial reporting and disclosure. 2. Documentation of the processes in question, while recognizing material control processes that provide a response to these risks. 3. Mapping control gaps that exist regarding desired controls. 4. Testing the effectiveness of the controls, identifying and correcting flaws. 5. Formulating Management conclusions regarding the effectiveness of internal controls on the matter of financial reporting and disclosure. 6. The auditing accountant's review of these controls. In order to identify tasks and establish material business processes at the Company, use was made of a tool for estimating and analyzing risks that weighs quantitative and qualitative factors for the purpose of estimating the risk embodied in the balances in the Company's Financial Statements which may constitute a material risk to financial reporting and to disclosure. Quantitative considerations taken into account included granting a relative weight to every financial balance in the statements as published by the Company out of the total balance sheet.
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Qualitative considerations taken into account include, among other things, the complexity of the accounting process involved in listing the transactions and the financial reporting, the reliability of the information systems supporting the business process, estimating chances of fraud, total-Company risks, the impact of extra-Company factors and more. As part of the preparations for the implementations of the regulations at the Company, the following processes were identified as highly material for financial reporting and disclosure: 1. ELC – entity level controls. 2. The financial statement closing process. 3. IT general controls. Regarding these processes the following accounts were identified as highly material accounts with a high level of risk: 1. Fixed assets. 2. Derivative financial statements. 3. Net passenger revenues. 4. Salary expenses. 5. Operating costs (jet fuel). As of this report, the Company has completed the project planning stages, mapping material processes and establishing timetables for the project.
C.8
Use of Securities Proceeds
Pursuant to the commitment given by the Company and by the State of Israel, as expressed in the 2003 prospectus, the proceeds of the State's and the Company's offerings in recognized severance funds are recognized for securing severance payments. After making these deposits and covering the entire deficit in the severance fund, the Company deposited NIS 30.0 million, (including interest accrued to date) constituting the balance of the offering proceeds, in a special account (included in short-term deposits as of December 31, 2009). The Company is evaluating the existence of limitations related to its ability to use the proceeds balance, pursuant to the aforementioned agreement, between it and the State and the employees' representatives, and in this connection, the Company communicated to the State. As of this report, the State has yet to issue its response. For further details see Notes 6.b and 23.b.3 to the December 31 2009 financial statements.
c.9
Disclosure regarding consent to perform peer review
On July 28, 2005, the Securities Authority issued a guideline under Section 36a of the Securities Law, 1968 regarding disclosure of consent given to perform peer review, the objective of which, according to this guideline, is to spur the process of controlling the work of accounting firms and examining for the existence of the requisite procedures during the audit work they perform, which will contribute to the existence of an advanced capital market. On 29th March 2006, the Board of Directors gave the necessary consent for undertaking the peer review.
c.10 Negligible Transaction On November 26 2009, the Company Board of Directors decided to adopt rules and guidelines for the classification of a transaction made by the company or one of its affiliates with an interested party
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(hereinafter: "an Interested Party Transaction") as a negligible transaction as defined in Regulation 64(3)(d)(a) of the Securities Regulations (Preparation of Yearly Financial Statements, 19931.) These rules and guidelines are also used to determine the extent of disclosure in the periodic report and in the prospectus (including in shelf proposal reports) as regards transactions with controlling shareholders or in which controlling shareholders have personal interest as defined in Regulation 22 of the Securities Regulations (Periodic and Immediate Reports), 1970 (hereinafter: "the Reporting Regulations), and Regulation 54 of the Securities Regulations (Prospectus Details and Prospectus Draft – Structure and Form) as well as to determine the need to submit an immediate report for such a transaction, as set in Regulation 37(a)(6) of the Reporting Regulations. The Company's Board of Directors has determined that in the absence of special qualitative considerations deriving from the circumstances of the issue, an Interested Party Transaction shall be considered a "negligible transaction" if: (a) The transaction takes place over the Company's normal course of business and (b) the transaction is under market conditions and its terms are acceptable to the relevant market; and – (c) the relevant criteria for the transaction, one or more, whether it is a single commitment or a series of commitments on the same issue over the course of the same year, is at an extent of no greater than 200,000 NIS in any interested party transaction the classification of which has been considered as a "negligible transaction" on the basis of the Company's latest audited consolidated yearly financial statements. Relevant criteria for the determination of a transaction are, for instance: (1) total sales the subject of the Interested Party Transaction; or – (2) the total cost of the sales the subject of the Interested Party Transaction; or – 93) the extent of assets the subject of the Interested Party Transaction; or – (4) the extent of liabilities the subject of the Interested Party Transaction; or – (5) the extent of the expense or yield the subject of the Interested Party Transaction. In this regard – in the event the Company does not have full rights to a certain transaction, the transaction shall be determined based on the Company's relative portion of the transaction. In cases in which, according to the Company's judgment, all of the aforementioned criteria are irrelevant for the determination of the negligibility of the Interested Party Transaction, the transaction shall be considered negligible, in accordance with a different relevant criterion, determined by the Company, so long as the relevant criterion used for this transaction shall be no greater than 200,000 NIS. At the same time, examination of the quantitative considerations of an interested party transaction may lead to the contradiction of the aforementioned presumption of the transaction's negligibility. Thus, for instance, and merely as an example, an Interested Party Transaction shall not generally be considered negligible if it is considered a significant event by Company Management and if it serves as basis for administrative decisions, or if interested parties are expected to receive benefits that need to be reported to the public as part of the transaction. The transaction's negligibility shall be determined on a yearly basis for the purpose of reporting within the framework of the periodic report, the financial statements and the prospectus (including a shelf proposal report), while adding together all of the Company's transactions of the sort with the interested party in question or with corporations under the control of the interested party. To be clear – separate transactions carried out on a regular and repeating basis during a certain period with no mutual dependence or for which no additional obligations exist which are not relevant to entering into the transaction as regards the same interested party, shall be examined on a yearly basis for the purpose of reporting pursuant to the periodic report , the financial statements and the prospectus (including a shelf proposal report), and on the basis of the specific transaction for the purpose of immediate reporting.
c.11 Employee Compensation The considerations guiding the Board of Directors in establishing wages for Company executives were based primarily on the status and position of each and on the contribution each made to the Company. 1
Or as defined in Regulation 41(a)(6)(a) of the Securities Regulations (Yearly Financial Statements) 2010 which replace the regulations in question starting January 6 2010.
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The service agreement signed with the Chairman of the Board of Directors includes salary and options, as detailed in Note 38j. to the December 31 2009 Financial Statements. The employment agreement with the incoming Company CEO, Mr. Elyezer Shkedi, stated that the bonus to which the CEO is entitled shall be calculated as a portion of the Company's yearly pre-tax earnings, as established in the employment agreement and in addition according to the increase in profitability (difference) during his tenure as CEO, as detailed in Note 38l. to the December 31 2009 Financial Statements. According to the estimates of the Company's Board of Directors, taking into consideration the scope and complexity of business, and the scope of the responsibilities of executives and the salaries paid executives in similar positions in similar Israeli corporations, the salaries of Company executives constitutes a fair and reasonable contribution, including while taking into consideration the state of the market. As a result of the adoption of International Financial Reporting Standards (IFRS), the percentage of employee benefits is measured according to actuary estimates. This, contrary to practices prior to the adoption of the above standards. For further details on the compensation of the Company's departing CEO, Mr. Chaim Romano, and that of the incoming CEO, Mr. Elyezer Shkedi, see Notes 38.k. and 38l. to the December 31 2009 Financial Statements.
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d.
Disclosure Pertaining to the Corporation's Financial Reporting
d. 1 Events Subsequent to the Balance Sheet Date Regarding subsequent events, see Note 41 to the December 31 2009 Financial Statements.
d. 2 Critical Accounting Estimates Regarding critical accounting estimates, see Note 4 to the December 31 2009 Financial Statements.
d. 3 Explanation of the Matter to which the Company's Independent Auditors Draw Attention in their Report on the Financial Statements The Company's independent auditors draw attention, in their opinion on the Financial Statements, to Note 27 to the Financial Statements – regarding the legal proceedings against the Company. Although the matter to which the independent auditors drew attention does not constitute a change in the uniform wording of the auditor's report, attention must be drawn to it because of its possible material effect on the Company.
e.
Further Information
e. 1 Dividend Distribution Policy On November 20, 2007, the Company's dividend policy was updated. Pursuant to the new dividend policy, the Company will distribute dividends from time to time at the discretion of the Board of Directors and subject to the Company's needs. As to the dividend distribution in 2007 and 2008, see Note 30.h to the Financial Statements.
e.2 a.
Disclosure regarding Changes in the Economic Environment, the Implications of the Capital Market Crisis and Market Risks The international aviation industry is affected by the global security situation and political and unusual events, such as the outbreak of epidemics and natural disasters in the world, in general, and in specific areas, in particular, as well as by the economic situation in Israel and around the world. According to IATA information, in 2009 international passenger traffic decreased 3.5% and airborne cargo shipping dropped 10.1%. Starting from the third quarter of 2009, the process of emerging from the economic crisis and economic recovery have begun, mainly in developing Asian markets, which has accelerated the air cargo sector as well as international passenger traffic. At the same time, yields per passenger are still low. Accordingly, in March 2010 IATA issued an updated estimate according to which airline losses in 2009 would total $9.4 billion, contrary to the September 2009 projection which predicted $11 billion in losses. Since the end of 2009 jet fuel prices have remained extremely volatile. An increase has occurred in USD interest rates along with fluctuation in exchange rate of the NIS versus the USD. The impact of these changes on the Company shall be detailed below.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
b.
As of the Balance Sheet date (December 31 2009) the price of jet fuel in the Med region was 201.9 cents per gallon, while as of immediately prior to the approval of the 2009 report this price had reached 207.8 cents per gallon, a 3% increase. The effective price the Company is expected to pay for jet fuel consumption (after hedging) in January and February 2010 is 15% higher than the average effective price paid in 2009. At the same time, the fair value of jet hedging instruments shall be set in accordance with price changes which occurred since the end of the year and the completion of accounting for some of the transactions. In February 2010 the Company conducted an additional hedging agreement for part of the fuel consumption projected for the third quarter of 2010. Following the drop in jet fuel prices beginning in the second half of 2008, the Company provided, as collateral to guarantee its meeting, hedging payments owed in accordance with its agreements with the hedging institutions, consisting mainly of letters of credit issued by Israeli banks in return for the restriction of assets and cash, and in part from interest-bearing deposits deposited directly in the hedging banks. Subsequent to the balance sheet date, the deposit updating mechanism continued on a regular basis in accordance with daily fluctuations in jet fuel market prices. Note that the amount of the collateral changes from day to day according to jet fuel market prices and the Company makes daily calculations regarding the changes required in the collateral and their extent. As of a date immediately prior to the approval of the 2009 Financial Statements this collateral amounted to a sum of $29.0 million (through letters of credit issued by foreign banks in return for the restriction of aircraft at local banks).
c.
Subsequent to the balance sheet date and until a date immediately prior to the approval of the yearly report, a 13% increase occurred in three-month Libor interest rates. The impact of the change in Libor rates in the payment of interest on loans shall be evident in the next repayment date for each loan. The interest payments on Company loans for the first quarter of 2010 shall be made according to interest rates in previous quarters. The Company possesses hedging agreements for Libor rates (see Section b.1.(4) above), the fair value of which is expected to drop as a result of the decrease in Libor interest rates.
d.
Subsequent to the balance sheet date, fluctuation continued in the exchange rate of the NIS vs. the USD. Immediately prior to the approval of this report, the NIS dropped 1.0% relative to the USD. A 1% revaluation in the NIS/USD exchange rate for an entire year increases the Company's yearly expenses by $3.5 million. In addition to the above, the revaluation of the NIS relative to the dollar increases the Company's shekel liabilities in dollar terms (see Section b.1.(1) of the Board of Directors Report), thus increasing the Company's salary and financing expenses. The Company has hedging agreements on the NIS/USD exchange rate (see b.1.(5) above), the fair value of which may change according to changes in exchange rates. Note that the impact of exchange rates on next quarter's operating results shall be determined based on exchange rates in effect throughout the quarter and at its conclusion (March 31 2010).
The Board of Directors thanks the Company's management and employees for their devoted work and efforts for the development of the Company and promoting its businesses.
Amikam Cohen
Elyezer Shkedy
Chairman of the Board
Chief Executive Officer
March 28, 2010
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
Appendix to the Report of the Board of Directors on the State of the Corporation's Affairs for the Quarter Ended December 31, 2009
Minimal Disclosure Required for Value Estimates an in their Regard, and Rules Pertaining to their Addition to Reports according to Securities Authority Guidelines in Accordance with Section 36a to the Securities Act, 1968. Assessment of the Total Value of the 777-200 and 747-400 Fleets
a.
Introduction International Accounting Standard 36 establishes rules regarding the accounting treatment, presentation and disclosure required in the event of the impairment of assets. The purpose of the standard is to establish procedures the corporation must implement in order to ensure that these assets are not presented in sums higher than their recoverable amount. An asset is presented in the Financial Statements at higher than its recoverable amount when its book value is higher than the sum received from the use or sale of the asset. In this case the asset has an impairment and IAS 36 demands the corporation to recognize an impairment loss. The following document presents the key points of the value estimate performed by El Al Israel Airlines Ltd. Management (hereinafter "El Al" or "The Company") in order to determine whether the impairment of its 777-200 and 747-400 fleets (hereinafter "the Fleets") was to be recognized according to IAS 36, in accordance with Securities Authority directives. This document was prepared in accordance with guidelines from the Securities Authority as per Section 36a of the Securities Law, 1968, regarding minimal required disclosure for value assessments and rules regarding their addition to reports in accordance with the Securities Law, 1968.
b.
Specification and Identification of Asset Group The asset group for which the test was conducted includes the 777-200 fleet which consists of 6 aircraft owned by the Company and the 747-400 fleet which consists of 5 aircraft owned by the Company.
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c.
Review Date March 2010. The value estimate was based on financial projections for 2010 and coming years.
d.
Value Assessor The value assessment was performed by El Al management.
e.
Circumstances under which the IAS 36 Value Assessment was Conducted The book value of the aircraft fleet is higher than its market value as appearing in price lists published by AVAC – the Aircraft Value Analysis Company (according to the latest price list published October 2009 - "MID" data). Note that use of the market value of the aircraft on the basis of AVAC price lists is common practice among airlines around the world as well as among financing banks and has been used by El Al in its various agreements with banks. IAS 36 states that a provision for impairment must be made when the book value of an asset exceeds its recoverable amount. A recoverable amount is calculated as the asset's net selling price or value in use, whichever is higher. The net selling price is the sum that may be received from the sale of the asset in a good faith agreement between a willing buyer and a willing seller. The value in use of an asset is the current value of estimated future cash flow expected to derive from continuous use of the asset and its sale at the end of the period of use. The Company considers the market value of the assets as published by AVAC as representing the net sales price of its assets. As of this value assessment, the Company has examined the value in use of the aircraft in its possession and in its service, the accumulated costs of which in the Company's December 31 2009 Financial Statements is greater than their selling price. As of this value assessment, the selling price of the 777-200 fleet, as specified in paragraph b. above, amounts to a total of $513 million, compared to the depreciated retained cost in the books of those aircraft as of December 31 2009, which amounts to a total of $541 million. The selling price of the 747-400 fleet, as specified in paragraph b. above, amounts to a total of $193 million, compared to the depreciated retained cost in the books of those aircraft as of December 31 2009, which totals $262 million. b-43
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
f.
Assessment Method The value assessment was conducted based on the discounted cash flow method. According to this approach, assessed cash flows expected for the Company from the use of the aircraft fleet were discounted. The following are key assumptions used in calculating value: •
Useful life: for the 777-200 fleet – 13 years of activity (and sale of the aircraft at net selling price at the end of the 13 year period), for the 747-400 fleet - 6 years of activity (and sale of the aircraft at net selling price at the end of the 6 year period).
•
Cash flow expected from activity: management calculated that the projected cash flow from the operation of the 777-200 aircraft fleet will amount to $79 million in 2010, and the cash flow from the operation of the 747-400 aircraft fleet will amount to $87 million. This cash flow was calculated based on revenues from the aircraft fleet less commissions and variable expenses that may be assigned to the fleet in question and less fixed cash flow expenses such as security and maintenance expenses that may be allocated relative to the cost of these aircrafts' operation.
•
Residual value at the end of useful life (meaning after 13 years for the 777-200 fleet and 6 years for the 747-400 fleet): calculated based on AVAC company projections and totaling $245 million for the 777-200 fleet and $105 million for the 747-400 fleet (non-discounted values).
•
Growth rate: no real future growth in the Company's activities from the aircraft fleet in question was taken into account, and it is based on the projection for 2010.
•
Discount rate: an 8% discount rate was assumed. According to Company Management's estimates, this discount rate adequately reflects the capital price component for the Company.
•
The load factor for coming years was assumed to equal the same fixed rate as in the 2010 projection.
•
The current tax rate expected for the Company for the coming 6-13 years period is zero.
•
The Company assumes that the aircraft in question shall be used as passenger aircraft for the next 6-13 years.
•
The Company did not assume the need to make any unexpected investments in these aircraft in order to permit their continued use.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
g.
Value Set using the Discounted Cash Flow Method for the 777-200 Fleet (in millions of dollars): 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 Total
Total discounted cash flow
76
71
65
61
56
52
48
45
41
38
35
33
Total residual value (after 13 years)
31
652
90
90
Total value of the above assets based on the discounted cash flow method: $742 million.
The following is a sensitivity analysis of the value of these aircraft for changes in discount price, changes in jet fuel prices and for changes in the contribution of cash which according to the Company constitute key elements that may alter value in use projections:
Discount Rate 6.0%
6.5%
7.0%
7.5%
8.0%
8.5%
9.0%
9.5%
Yearly Contribution In Millions of Dollars 65
707
685
664
643
624
606
588
571
70
753
729
707
686
665
646
627
609
75
799
774
750
728
706
686
666
648
79
838
812
788
764
742
721
700
681
85
890
862
837
812
788
766
744
724
90
935
907
880
854
829
806
783
762
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
Fuel price sensitivity analysis, use of the asset across 13 years: Fuel Price
Yearly Contribution
NPV
Reduced Value
(Cent per Gallon)
Difference of NPV Vs. Reduced Value
226
In Millions of Dollars 83 774 541
233
238
81
758
541
217
251
79
742
541
201
263
77
726
541
185
276
75
710
541
169
h. Value Set using the Discounted Cash Flow Method for the 747-400 Fleet (in millions of dollars):
Total discounted cash flow
2010
2011
2012
2013
2014
2015
Total
83
77
72
66
61
58
417
66
66
Total residual value (after 7 years)
Total value of the above assets based on the discounted cash flow method: $483 million.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
The following is a sensitivity analysis of the value of these aircraft for changes in discount price, changes in jet fuel prices and for changes in the contribution of cash which according to the Company constitute key elements that may alter value in use projections: Discount Rate 6.0%
Yearly Contribution
6.5%
7.0%
7.5%
8.0%
8.5%
9.0%
9.5%
In Millions of Dollars 75
454
447
440
433
426
420
414
408
80
479
472
464
457
450
444
437
431
87
513
505
498
490
483
476
469
462
90
530
522
514
506
499
491
484
477
95
555
547
538
530
523
515
508
500
100
580
572
563
555
547
539
531
523
Fuel price sensitivity analysis, use of the asset across 6 years: Fuel Price
Yearly Contribution
NPV
Reduced Value
(Cent per Gallon)
Difference of NPV Vs. Reduced Value
230
In Millions of Dollars 91 503 262
241
242
89
493
262
231
255
87
483
262
221
268
85
473
262
211
281
83
463
262
201
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
i. Summary The following table presents the summarized value assessment as of December 31 2009 for the 777-200 fleet: Recoverable amount calculation: Net Selling Price
Value in Use for El Al
Recoverable Amount - Whichever is Higher for El Al
In Millions of Dollars 513
742
742
Should impairment be listed in the books? The Aircrafts' Depreciated Retained Cost on December 31 2009
The Recoverable Amount of the Same Aircraft to El Al, on December 31 2009
Should Depreciation be Listed in the Books?
In Millions of Dollars 541
742
No
The following table presents the summarized value assessment as of December 31 2009 for the 747-400 fleet: Recoverable amount calculation: Net Selling Price
Value in Use for El Al
Recoverable Amount - Whichever is Higher for El Al
In Millions of Dollars 193
483
483
Should impairment be listed in the books? The Aircrafts' Depreciated Retained Cost on December 31 2009
The Recoverable Amount of the Same Aircraft to El Al, on December 31 2009
Should Impairment be Listed in the Books?
In Millions of Dollars 262
483
No
This value assessment is accurate on the date of its preparation and is based upon monetary details for 2010 and on projected income and expenses for the next 6-13 years. Changes in the projected assessments detailed above may alter the value assessment and the Company may subsequently be required to perform impairment.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
______________ 2009 ANNUAL REPORT CHAPTER C 2009 FINANCIAL STATEMENTS
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LIMITED
Consolidated Financial Statements
2009
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD 2009 CONSOLIDATED FINACIAL STATEMENTS Contents Page Independent auditors' reports
C-1
Financial Statements Consolidated Balance Sheets
C-2-C-3
Consolidated Statements of Operations
C-4
Consolidated Statement of Comprehensive Income
C-5
Consolidated Statement of Changes in Shareholders' Equity
C-6-C-8
Statements of Cash Flows
C - 9 - C - 10
Notes to the Financial Statements
C - 11 - C - 114
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding Brightman Almagor 1 Azrieli Center Tel Aviv 67021 P.O.B. 16593, Tel Aviv 61164 Israel Tel: +972 (3) 608 5555 Fax: +972 (3) 609 4022
[email protected] www.deloitte.com
INDEPENDENT AUDITORS' REPORT TO THE SHAREHOLDERS OF
EL AL ISRAEL AIRLINES LTD. We have audited the attached balance sheets of El Al Israel Airlines Ltd. ("the Company") as of December 31, 2009, 2008 and 2007 and the consolidated balance sheets as of those dates, and the statements of operations, consolidated statement of comprehensive income, changes in shareholders' equity and cash for each of the three years in the period ended December 31, 2009. These financial statements are the responsibility of the Company’s Board of Directors and management. Our responsibility is to express our opinion on these financial statements based on our audits. We did not audit the financial statements of subsidiaries, whose assets included in consolidation constitute 1.3%, 0.8% and 0.5% of total consolidated assets as of December 31, 2009, 2008 and 2007, respectively, and whose revenues constitute 1.1%, 1% and 0.6% of total consolidated revenues for the years ended December 31, 2009, 2008 and 2007, respectively. The financial statements of those subsidiaries were audited by other auditors whose reports have been provided to us, and our opinion, insofar as it relates to the amounts included in respect thereof, is based on the reports of those other auditors. We conducted our audits in accordance with generally accepted auditing standards, including those prescribed by the Israeli Auditors’ Regulations (Mode of Performance), 1973. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by the board of directors and management, as well as evaluating the overall propriety of the financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, based on our audits and the reports of other auditors as noted above, the financial statements referred to above presents fairly, in all material respects, the consolidated financial position of the Company as of December 31, 2009, 2008 and 2007, and the results of operations, changes in shareholders’ equity and cash flows of the Company for each of the three years in the period ended on those dates, in accordance with International Financial Reporting Standards (IFRS) and with the Israeli Securities Regulations (Annual Financial Statements), 2010. Without qualifying the above opinion, we direct your attention to Note 27.d of the Financial Statements regarding legal proceedings against the Company and the Company's exposure to lawsuits approved as class actions.
Brightman Almagor Zohar & Co Certified Public Accountants Tel Aviv, March 28, 2010
C-1
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Balance Sheets
Note
2009
As of December 31 (*) 2008 Thousands of Dollars
(*) 2007
Assets Current assets Cash and cash equivalents Short-term deposits Restricted deposits Trade receivables Other receivables Derivative financial instruments Prepaid expenses Inventories Total current assets
Non-current assets Bank deposits Investment in affiliated companies Investment in another company Derivative financial instruments Fixed assets, net Intangible assets, net Prepaid expenses Assets due to employee benefits Total non-current assets
5a 6 5b 8 9 7,31 10 11
106,687 7,933 7,003 112,086 16,155 11,206 24,873 21,947 307,890
50,600 7,821 152,969 106,046 19,693 174 24,586 11,472 373,361
86,670 180,633 143,617 17,628 25,530 32,214 15,981 502,273
13 15b 14 7,31 16 17
1,839 648 1,357 2,255 1,312,930 7,504 2,578 34,501 1,363,612
2,189 2,736 1,565 1,314,182 8,618 3,106 36,777 1,369,173
2,207 2,268 1,715 7,570 1,285,752 4,388 3,114 34,527 1,341,541
1,671,502
1,742,534
1,843,814
23
Total Assets
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Balance Sheets
Note
2009
As of December 31 (*) 2008 Thousands of Dollars
(*) 2007
Liabilities and shareholders' equity Current liabilities Borrowings and current maturities Trade payables Other payables Dividends declared for payment Provisions Derivative financial instruments Employee benefit obligations Unearned revenues Total current liabilities
18 19 20 30h 27 25,31 23 24
106,016 128,970 54,444 57,217 55,643 81,379 204,444 688,113
86,271 130,893 44,741 57,049 108,072 87,930 197,911 712,867
66,316 165,142 47,185 3,008 66,519 94,794 213,100 656,064
Non-current liabilities Loans from financial institutions Employee benefit obligations Lease fees payable Derivative financial instruments Other payables Provisions Deferred taxes Unearned revenues Total non-current liabilities
22 23 26 25,31 20 27 28 24
704,194 65,835 20,135 13,318 5,313 50,813 859,608
678,657 76,226 86,789 3,297 11,728 1,872 52,434 911,003
713,793 89,278 423 1,415 2,278 51,182 50,134 908,503
1,547,721
1,623,870
1,564,567
155,012 28,007
155,012 28,007
155,012 28,007
237,122 6,414 (30,822) (271,952) 123,781
237,122 5,780 (111,605) (195,652) 118,664
237,122 4,464 8,341 (153,699) 279,247
1,671,502
1,742,534
1,843,814
Total liabilities 40,29
Pending liabilities, collateral, commitments and liens Shareholders’ equity Share capital Share premium Capital reserve from transactions with a former controlling shareholder Capital reserve in respect of share-based payment Capital reserve in respect of cash flow hedging Accumulated loss Total shareholders' equity
30
Total liabilities and equity
(*) Retroactive implementation of changes in accounting policy - see Note 3d. Amikam Cohen Chairman of the Board of Directors
Elyezer Shkedi CEO
Financial Statement Approval Date: Ben Gurion Airport, March 28, 2010
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Nissim Malki CFO
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statements of Operations
Note
Operating revenues Operating expenses
32a 32b
Gross profit Selling expenses General and administrative expenses Other operating (expenses) revenues, net
32c 32d 32e
Operating profits (loss) before financing Financing expenses Financing income Financing expenses, net
33 34
Company's equity in earnings of affiliates, net Profit (loss) before income taxes Tax benefit (taxes on income)
28
Profit (loss) for the year
For the Year Ending December 31 (*) 2008 Thousands of Dollars
2009
(*) 2007
1,655,833 (1,444,250)
2,096,326 (1,776,329)
1,920,007 (1,518,564)
211,583
319,997
401,443
(182,962) (88,562) (15,027)
(227,573) (97,103) (975)
(226,582) (91,691) 2,423
(286,551)
(325,651)
(315,850)
(74,968)
(5,654)
85,593
(30,297) 3,999 (26,298)
(61,566) 16,969 (44,597)
(56,062) 19,469 (36,593)
442
543
332
(100,824)
(49,708)
49,332
24,524
7,801
(11,307)
(76,300)
(41,907)
38,025
Basic profit (loss) per NIS 1 par value share (in USD) Basic profit (loss) per share
35
(0.15)
(0.08)
0.08
Diluted profit (loss) per share
35
(0.15)
(0.08)
0.08
495,719 495,719
495,719 495,719
476,289 495,935
Weighted average numbers of shares issued for calculation of profit (loss) per share (in thousands) Basic Diluted
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL Israel Airlines Ltd. Consolidated Statement of Comprehensive Income
2009
For the Year Ending December 31 (*) 2008 Thousands of NIS
(*) 2007
(76,300)
(41,907)
38,025
Earning (loss) in respect of cash flow hedging, net of tax
80,783
(119,946)
4,192
Other comprehensive income (loss) for the year, net of tax
80,783
(119,946)
4,192
4,483
(161,853)
42,217
Profit (loss) for the period Other comprehensive income (loss)
Comprehensive income (loss) for the year
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
C-5
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statement of Changes in Shareholders' Equity
For the Year Ending December 31 2007
Share capital
Share premium
Capital reserve from transactions with a former controlling shareholder
Capital reserve in respect of share-based payment
Capital reserve in respect of cash flow hedging
Accumulated loss
Total
Thousands of Dollars Balance as of January 1 2007 Influence of changes in accounting policy (*) Balance as of January 1 2007 after retroactive adjustments Total profit for the year
131,536
904
218,498
2,582
4,149
(146,607)
211,062
-
-
-
-
-
(32,796)
(32,796)
131,536
904
218,498
2,582
4,149
(179,403)
178,266
-
-
-
-
4,192
38,025
42,217
Receipts on account of Government of Israel debt Exercise of options to shares Dividends distributed Dividends declared Share-based payment Total transactions with company shareholders acting as shareholders
23,476 -
27,103 -
18,624 -
1,882
-
(9,313) (3,008) -
18,624 50,579 (9,313) (3,008) 1,882
23,476
27,103
18,624
1,882
-
(12,321)
58,764
Total shareholders' equity as of December 31 2007
155,012
28,007
237,122
4,464
8,341
(153,699)
279,247
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statement of Changes in Shareholders' Equity
For the Year Ending December 31 2008
Share capital
Share premium
Capital reserve from transactions with a former controlling shareholder
Capital reserve in respect of share-based payment
Capital reserve in respect of cash flow hedging
Accumulated loss
Total
Thousands of Dollars Balance as of January 1 2008 Influence of changes in accounting policy (*) Balance as of January 1 2008 after retroactive adjustments Total loss for the year Adjustments due to dividends paid Share-based payment Total transactions with company shareholders acting as shareholders Total shareholders' equity as of December 31 2008
155,012
28,007
237,122
4,464
8,341
(114,102)
318,844
-
-
-
-
-
(39,597)
(39,597)
155,012
28,007
237,122
4,464
8,341
(153,699)
279,247
-
-
-
-
(119,946)
(41,907)
(161,853)
-
-
-
1,316
-
(46) -
(46) 1,316
-
-
-
1,316
-
(46)
1,270
155,012
28,007
237,122
5,780
(111,605)
(195,652)
118,664
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
C-7
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statement of Changes in Shareholders' Equity
For the Year Ending December 31 2009
Share capital
Share premium
Capital reserve from transactions with a former controlling shareholder
Capital reserve in respect of share-based payment
Capital reserve in respect of cash flow hedging
Accumulated loss
Total
Thousands of Dollars Balance as of January 1 2009 Influence of changes in accounting policy (*) Balance as of January 1 2009 after retroactive adjustments Total profit (loss) for the year Share-based payment Total transactions with company shareholders acting as shareholders Total shareholders' equity as of December 31 2009
155,012
28,007
237,122
5,780
(111,605)
(152,969)
161,347
-
-
-
-
-
(42,683)
(42,683)
155,012
28,007
237,122
5,780
(111,605)
(195,652)
118,664
-
-
-
-
80,783
(76,300)
4,483
-
-
-
634
-
-
634
-
-
-
634
-
-
634
155,012
28,007
237,122
6,414
(30,822)
(271,952)
123,781
(*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statement of Cash Flow For the Year Ending December 31 (*) 2008 (*) 2007 Thousands of Dollars
2009 Cash Flows from Operating Activities Net profit (loss) for the year Appendix A - Adjustments required for presentation of cash flow from current operations
(76,300)
(41,907)
38,025
98,699
160,782
217,505
Cash deriving from operating activities, prior to the deposit of the Proceeds from the exercise of options in the compensation fund, to cover past obligations Deposit of the proceeds from the realization of options in the compensation fund, to cover past obligations
22,399
118,875
255,530
-
-
(24,376)
Cash deriving from operating activities, net
22,399
118,875
231,154
(178,679) 22,803 (1,955) 145,966 (112) (176) 727 1,229 571 -
(159,580) 9,676 (5,078) (152,969) 172,812 (318) 360 -
(248,558) 504 (644) (175,951) (529) 470 12 3,843
(9,626)
(135,097)
(420,853)
113,259
36,000
31,820 219,420
(74,615)
(64,911)
(101,267)
(254) (7,159) 12,083 -
(385) 12,501 (3,053)
98 (2,309) (7,570) (668) (9,313)
Cash deriving from (used for) financing activities, net
43,314
(19,848)
130,211
Increase (decrease) in cash and cash equivalents
56,087
(36,070)
(59,488)
Balance of cash and cash equivalents at the beginning of the year
50,600
86,670
146,158
106,687
50,600
86,670
Cash Flows for Investment Activities Acquisition of fixed assets (including general engine overhauls and payment on account of aircraft) Proceeds from realized fixed assets Investment in intangible assets Realization of (investment in) restricted deposits Decrease (increase) in short-term deposits, net Investment in deposits for service providers, and for long-term Realization of deposits for service providers, and for long-term Decrease in investments and loans to investee companies, net Cash yield from the sale of affiliate Dividend received less share of profits of affiliates, net Return on investment in fixed assets Cash used for investment activities, net Cash Flows from (for) Financing Activities Proceeds from the exercise of options to shares Receipt of long-term loans from financial institutions Repayment of long-term loans from financial institutions Receipt of other long-term loans Repayment of other long-term loans Payment for loan raising costs Increase (decrease) in short-term credit, net Dividends paid
Balance of cash and cash equivalents at the end of the year (*) Retroactive implementation of changes in accounting policy - see Note 3d.
The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
El Al Israel Airlines Ltd. Consolidated Statement of Cash Flow For the Year Ending December 31 (*) 2008 (*) 2007 2009 Thousands of Dollars Appendix A Income and expenses not involving cash flows: Depreciation and amortization (including disposal of accessories, disused components and consumables used and impairment of fixed assets and intangible assets) Adjustment of value of trade payables and long-term deposits Share of earnings of affiliated companies, less dividends received, net Deferred taxes, net Increase (decrease) in liabilities in respect of employee benefits and in provisions Net capital losses (gains) from realized fixed assets Benefit value of employee stock option program Loss (gain) from adjustment of fair value of derivatives recognized in the statement of operations Decrease in other long-term liabilities
160,987 7 (284) (24,604)
131,098 127 (468) (6,989)
135,777 (218) 11,598
(18,754) (582) 634
(17,555) (7,418) 1,316
23,325 1,440 1,882
(23,542) -
65,087 (168)
(19,867) -
(6,040) 4,110 2,001 (10,475) (1,923) 12,252 4,912
37,571 (1,269) 6,840 4,509 (33,230) (4,856) (13,813)
(11,073) 2,100 (7,539) 1,209 22,430 1,011 55,430
98,699
160,782
217,505
572
-
-
Government of Israel deposit to fund for employee severance pay (see Note 23.b.3.b)
-
-
18,624
Dividends declared and paid subsequent to the balance sheet date
-
-
(3,008)
Exercise of option warrants presented as liability
-
-
18,759
Appendix C – Cash Payment (Receipt) of Interest, Taxes and Dividends, Classified Under Cash Flow from Regular Operations Interest payments
28,283
35,759
42,933
Interest receipts
(1,072)
(10,680)
(12,214)
203
235
244
(159)
(76)
(345)
Changes in asset and liability items: Decrease (increase) in trade receivables Decrease (increase) in other accounts receivable Decrease (increase) in prepaid expenses Decrease (increase) in inventories Increase (decrease) in trade payables Increase (decreases) in other payables Increase (decrease) in unearned revenues
Appendix B – Non-Cash Transactions Yield not yet received from the realization of an affiliated company (see Note 15.b.4)
Tax payments – advances in respect of extraneous expenses Dividend receipts (*) Retroactive implementation of changes in accounting policy - see Note 3d. The accompanying notes are an integral part of the financial statements.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 1
-
General a.
General Description of the Company and its Activities
EL AL Israel Airlines Ltd (hereafter-"the Company") was incorporated on November 15, 1948 as a state company. In 2003 the Company's stock was first offered to the public. The Company is the Israeli designated carrier on most routes to and from Israel, other than a number of routes on which other Israeli carriers were granted the status of designated carriers. The Company is primarily engaged in the transport of passengers and cargo, including luggage and mail, on scheduled flights and charter flights between Israel and foreign countries. Passenger transport on charter flights is carried out mainly by Sun D'Or International Airlines Ltd (hereafter - "Sun D'Or"), a wholly owned subsidiary of the Company. The Company is also engaged in leasing flight equipment, providing luggage handling and maintenance services at its home airport, sale of duty-free products and - through investees - in related activities, mainly production and supply of airline meals and management of several travel agencies in Israel and abroad. Starting June 2004, EL AL is defined as a “mixed company” pursuant to the Government Corporations Law, 1975, which defines a “mixed company” as one that is not a government corporation, with half or less than half of the voting rights in its General Meetings or the right to appoint half or less than half of its directors, in the hands of the State. As of December 31, 2009 and 2008, the State holds only 1.1% of the ownership and voting rights in the Company, in addition to the rights derived from the Special State Share it holds. b.
c.
Definitions: The Company
-
EL AL Israel Airlines Ltd.
The Group
-
The Company and its investee companies.
Related parties
-
As defined in IAS 24.
Interested parties
-
As defined in the Securities Law, 1968 and regulations thereof.
Controlling shareholders -
As defined in Securities Regulations (Annual Financial Statements), 2009.
CPI
-
The Consumer Price Index, as published by the Central Bureau of Statistics.
USD
-
US Dollar.
Consolidated companies
-
Companies in which the Company has control (as defined in IAS 27), directly or indirectly, whose financial statements are wholly consolidated with the Company's financial statements.
Affiliated companies
-
Companies in which the Company has material influence.
Investee companies
-
Consolidated and affiliated companies.
Other company
-
A company owned by the Company in which the latter has no control or material influence.
Failure to Include Separate Financial Information: In accordance with Regulation 4 of the Periodic and Immediate Reports Regulations, the Company did not include in its periodic report for the year ending December 31 2009 separate financial information as per Regulation 9.c of the regulations in question.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
The reason due to which no separate information was included was in light of the negligible impact the financial statements of the investee companies have on the Consolidated Financial Statements. The parameters used by the Company in order to establish the impact in question are: revenues, profits and cash flows from operating activities of up to 5% of all assets, revenues, profits and cash flows from operating activities in the consolidated statements – accordingly, ignoring the impact of uncommon exceptional occurrences. For information regarding transactions and commitments between the Company and its consolidated companies see Note 39 Note 2
-
Significant Accounting Policies a.
Statement Regarding the Implementation of International Financial Reporting Standards (IFRS) The Group's consolidated financial statements have been compiled in accordance with International Financial Reporting Standards (IFRS) and clarifications thereto issued by the International Accounting Standards Board (IASB). The significant accounting policies listed below have been applied consistently for all reported periods presented in these consolidated financial statements, with the exception of changes in accounting policy deriving from the implementation of regulations, amendments to regulations and interpretations that came into effect on the Financial Statement date, as detailed in Note 3 below.
b.
The Financial Statements have been prepared in accordance with the Securities Regulations (Yearly Financial Statements), 2009 (hereinafter – "the Financial Statements Regulations").
c.
The Company's operational turnover period is 12 months.
d.
Basis of Preparation of Financial Statements These financial statements have been prepared on the basis of historical cost except for the following:
e.
The following assets and liabilities, which are measured at fair value: financial instruments measured at fair value via Gain/Loss, derivative financial instruments. Non-current assets held for sale, presented at their carrying amount or at their fair value net of selling costs, whichever is lower. Inventory, presented at its cost or net realization value, whichever is lower. Fixed assets and intangible assets, presented at cost net of accumulated depreciation and amortization or at its recoverable amount, whichever is lower. Liabilities in respect of employee benefits, as set forth in Note 23
Foreign Currency (1)
Functional and Presentation Currency The financial statements of each Group company are compiled in the currency of the major economic environment in which it operates (hereinafter: "the Functional Currency"). For the purpose of financial statement consolidation, the financial standing and results of each Group company are presented in USD, which is the Company's functional currency. The Company's consolidated financial statements are presented in USD. For exchange rates and changes thereto during the periods presented, see Note 2y.
(2)
Translation of Transactions in Currencies other than the Functional Currency When compiling the financial statements of each Group company, transactions executed in currencies other than said company's functional currency (hereinafter: "Foreign Currency") are recorded at the exchange rates effective as of the transaction date. Upon each balance sheet date, monetary items denominated in foreign currency are translated using the exchange rate effective as of that date; non-monetary items measured at fair value and denominated in foreign currency are translated using the exchange rate effective as of the date on which fair value is determined; nonmonetary items measured at historical cost are translated using the exchange rate effective as of the date of the transaction involving the non-monetary item.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(3)
Recognition of Exchange Rate Differentials Exchange rate differentials are recognized in the statement of operations in the period in which they were generated, with the exception of exchange rate differentials for transactions intended to hedge certain foreign currency risks, see Note 2o.
f.
Consolidated Financial Statements The Group's consolidated financial statements include the financial statements of the Company and of entities directly or indirectly controlled by the Company. Control exists whenever the Company has the power to direct the financial and operational policies of an investee company in order to derive benefits from its operations. For the sake of consolidation, all inter-company transactions, balances, revenues and expenses are fully eliminated.
g.
Investments in Affiliated Companies An affiliated company is an entity in which the Group has material influence and which is not a consolidated company. Material influence is the power to participate in decision making with regard to financial and operational policies of the affiliated company, which does not constitute control or joint control of said policies. Results, assets and liabilities of affiliated companies are included in the Company's consolidated financial statements based on the equity accounting method. Gain or loss generated from transactions between the Company or a subsidiary and an affiliated company of the Group is eliminated based on the Group's share of rights in said affiliated company.
h.
Cash and Cash Equivalents Cash and cash equivalents include bank deposits available for immediate withdrawal as well as limited term deposits the use of which is unrestricted and whose term to maturity, at the time of investment, is no greater than three months. Deposits the redemption date of which on the date of investment in them exceeds three months and is no greater than one year are classified under short term deposits.
i.
Inventory Inventory is presented at the lower of its cost and net realization value. The cost of inventory includes all purchasing costs and other cost incurred in getting the inventory to its current location and status. Net realization value represents the estimated sales price over the regular course of business less estimated completion costs and estimated costs required to conduct the sale. Cost is determined using the weighted moving average method.
j.
Fixed Assets (1)
General: Fixed assets are tangible items held for use in providing services or for leasing to others which are expected to be used for more than one period. The Company presents its fixed asset items using the following cost model: Fixed asset items are presented in the balance sheet at cost, net of accumulated amortization and net of accumulated impairment, if any. The cost included the acquisition cost of the asset, as well as cost which is directly attributable to getting the asset to the location and state required for its operation in the manner intended by management. The cost of qualifying assets also includes credit cost to be capitalized. On the matter of testing the amortization of fixed assets see Note 2l.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(2)
Amortization of Fixed Assets: Fixed assets are amortized separately for each component of depreciable fixed asset item having a significant cost relative to the total item cost. Amortization is calculated systematically, using the straight line method over the expected useful life of the item components, starting on the date on which the asset is ready for its intended use, accounting for the expected residual value at the end of its useful life. Assets under a financial lease are amortized over their expected useful life on equivalent basis of owned assets, or over the term of the lease, if shorter. Regarding the aircraft fleet's average yearly deterioration rate, see Note 16.b.2. The cost of overhauling aircraft engines is recognized as an asset on the balance sheet, amortized over the period of economic benefit expected from said overhaul (based on estimated number of engine hours). The residual value, amortization method and useful life of the asset are reviewed by Company management at the end of each fiscal year. Changes are treated as changes to estimates on a "hence forward" basis. Gain or loss generated from sale or obsolescence of an asset is determined by the difference between proceeds from its sale and its carrying amount, and is recognized in the statement of operations. The cost of accessories and spare parts included with fixed assets is determined using the weighted moving average method. Accessories and spare parts attributed to a specific fleet are amortized over the average remaining life time of said fleet. Accessories and spare parts not attributed to a specific fleet are amortized according to the balance of the average life time of the Company's entire aircraft fleet. Accessories and spare parts with no movement or slow movement are included at depreciated values according to management estimate.
(3)
Consecutive Costs The cost of replacing part of a fixed asset item capable of being reliably estimated is recognized as an increase in carrying amount upon creation, although future economic benefits attributed to the item are expected to flow to the entity. Regular maintenance costs are charged to the Statement of Operations upon creation.
k.
Intangible Assets Rights for the use of security equipment are included at their cost to the Company, and are amortized using the straight line method based on the anticipated period of economic use, subject to impairment review. The lifetime estimate and amortization method are reviewed at the end of each reporting year, with the impact of changes to the estimate treated on hence-forward basis. Software is included at its cost to the Company and is amortized using the straight line method based on its expected period of economic use.
l.
Impairment of Tangible and Intangible Assets Upon the end of each reported period, the Group reviews the carrying amount of its tangible and intangible assets, with the exception of inventory, in order to determine if there are any indications of impairment of said assets. If any such indications exist, the asset's recoverable amount is estimated in order to determine the impairment loss, if any. If the recoverable amount for a single asset cannot be estimated, the Group estimates the recoverable amount of the cash-producing unit to which the asset belongs. The recoverable amount is the higher of the asset sale price less cost of sale and its use value. When estimating the use value, future cash flows are discounted to their present value using a pre-tax discount rate which reflects the current market estimates for time value of money and for asset-specific risks for which the future cash flow estimate has not been adjusted. If the recoverable amount for an asset (or for a cash-generating unit) is estimated to be lower than its carrying amount, the carrying amount of the asset (or of the cash-generating unit) is depreciated down to its recoverable amount. Impairment loss is immediately recognized as an expense in the statement of operations. C-14
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Company management believes that recoverable amounts for aircraft should be reviewed relative to their amortized cost after grouping aircraft fleets, and that it is incorrect to review the recoverable amount of each aircraft individually relative to its amortized cost. The Company, having grouped the aircraft fleets as set forth above, has determined that for each aircraft group, with the exception of the 757 and 747-200 fleets, the recoverable amount exceeds the amortized cost of said aircraft group upon that date. Therefore, a provision for impairment of aircraft and engines to the amount of $11.9 million was made in these Financial Statements. m.
Financial Assets (1)
General Financial assets are recognized in the Group balance sheet when the Group becomes party to contractual terms of said instrument. Investment in financial assets is initially recognized at fair value, plus transaction cost, except for financial assets recognized at fair value in the statement of operations, which are first recognized at fair value. The Group's financial assets are categorized according to categories detailed below. This categorization depends on the nature and objective of the financial asset and is determined upon initial recognition of said financial assets:
(2)
Financial assets measured at fair value in the statement of operations; Loans and accounts receivable.
Financial Assets Measured at Fair Value in the Statement of operations Financial assets are classified as "financial assets measured at fair value in the statement of operations" when such assets are held for trading or when they are designated as financial assets measured at fair value in the statement of operations. A financial asset is classified as held for trading if it is a derivative neither designated nor effective as a hedging instrument. The Group's financial assets under this category include derivative instruments not intended for use as hedging instruments, or which are not effective as such. These derivatives include certain derivatives based on the price of jet fuel, on interest rates and on exchange rates which are not designated as hedging instruments. Financial assets measured at fair value in the statement of operations are presented at fair value. Any gain or loss due to change in fair value, including due to exchange rates, is recognized in the statement of operations in the period in which the change has occurred.
(3)
Loans and Accounts Receivable The Group's financial assets in this category include trade receivables, deposits and other accounts receivable at fixed or fixable installments which have no quote on an active market. Loans and accounts receivable are measured at amortized cost using the effective interest method, net of any impairment. Interest revenues are recognized using the effective interest method, except for shortterm trade receivables and other accounts receivable – when interest amounts to be recognized in respect there of are not material.
(4)
Impairment of Financial Assets Financial assets, except for those classified as financial assets measured at fair value in the statement of operations, are reviewed for indications of impairment upon each balance sheet date. Such impairment occurs when there is objective evidence that expected future cash flow from investment in such asset has been negatively impacted due to one or more events which have occurred subsequent to initial recognition of the financial asset.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Indications of impairment may include:
Significant financial challenges to the debtor; Failure to make current principal or interest payments; Expectation that the debtor would become bankrupt or would re-structure their debt.
For financial assets presented at amortized cost, impairment is recognized as equal to the difference between the financial asset's carrying amount and the present value of future cash flow expected there from, discounted using its original effective interest rate. If in a subsequent period, the loss due to impairment of a financial asset decreases, and said decrease is objectively related to an event occurring after recognition of impairment, then the impairment loss previously recognized is reversed, in whole or in part, in the statement of operations. Such reversal is limited in amount, so that the carrying amount of investment in the asset upon reversal of impairment loss would not exceed the amortized cost of the asset as of that date had no impairment been previously recognized. As for trade receivables, their carrying amount is decreased, if necessary, using a provision for doubtful debt. The provision is specifically calculated. When trade receivables are not collectable, they are written off against the provision account. Collection, in subsequent periods, of amounts previously written off is credited against the provision account. Changes in carrying amount of the provision account are recognized in the statement of operations. n.
Financial Liabilities and Equity Instruments Issued by the Group (1)
Classification as Financial Liability or Equity Instrument Non-derivative financial instruments are classified as a financial liability or as an equity instrument, based on the nature of their underlying contractual terms. An equity instrument is any contract indicating a residual right to Group assets, after deduction of all Group liabilities. Equity instruments issued by the Company are stated at their issuance proceeds net of expenses directly related to issuance of said instruments. Group financial liabilities are stated and measured based on the following classification:
(2)
Financial liabilities measured at fair value in the statement of operations. Other financial liabilities.
Option Warrants for the Purchase of Company Shares Proceeds from issuance of option warrants for purchase of Company shares, which confer upon their owners the right to purchase a set number of ordinary shares in return for a variable cash amount, are stated under current liabilities and are classified as liabilities measured at fair value in the statement of operations. As the Company has issued option warrants whose exercise price is not denominated in its functional currency (the exercise price is NIS-denominated and linked to the Consumer Price Index), the exercise price is deemed to be a variable amount.
(3)
Financial Liabilities Measured at Fair Value in the Statement of Operations Group financial liabilities in this category include certain interest rate and exchange rate derivatives not designated as hedging instruments, as well as option warrants for purchase of Company shares, as set forth above. Financial liabilities measured at fair value in the statement of operations are stated at fair value. Any gain or loss due to change in fair value is recognized in the statement of operations. Transaction costs are charged to the statement of operations upon initial recognition.
(4)
Other Financial Liabilities Other financial liabilities include credit and loans, trade receivables and other accounts receivable. Such liabilities are initially recognized at fair value, net of transaction costs. Subsequent to initial C-16
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
recognition, other financial liabilities are measure at amortized cost using the effective interest method. (4)
Detraction of Financial Liabilities A financial liability is only removed when, and only when, it is paid up – meaning when the liability defined in the contract is defrayed, cancelled or expired.
o.
Derivative Financial Instruments and Hedging Accounting (1)
General The Company uses a range of derivative financial instruments to manage exposure to changes in price of jet fuel, interest rates and foreign currency exchange rates. Derivative financial instruments are initially recognized at their fair value upon the contracting date and at each subsequent balance sheet date. Changes to the fair value of derivative financial instruments are generally recognized in the statement of operations. The timing of recognition in the statement of operations of changes in fair value of derivative financial instruments designated as hedging, when such hedging is effective and meets all conditions for qualification as a hedging relationship, depends on the nature and type of hedging, as set forth below. The balance sheet classification of derivative financial instruments is determined based on the contractual term of the derivative financial instruments. If the remaining contractual term of the derivative is longer than 12 months, the derivative is stated as a non-current item on the balance sheet; if the remaining term is shorter than 12 months, the derivative is classified as a current item.
(2)
Hedge Accounting The Company applies cash flow hedge accounting, and to this end it has designated certain derivative financial instruments in respect of exposure to jet fuel prices and to interest rate changes. In order to hedge jet fuel prices, the Company has entered into multiple transactions in respect of expected fuel purchases for terms of up to 2 years from the balance sheet date. In order to reduce exposure to adjustable interest rates applicable to Company loans, the Company has entered into multiple contracts designated to fix interest rates. Interest hedging instruments used by the Company are aligned with repayment schedules of the loans they are designated to hedge in the related periods. In order to reduce exposure do to the USD/NIS exchange rate, the Company conducted several transactions the purpose of which was to hedge several of the Company's MIS payroll payments for a period of up to one year from the end of the reporting period. The hedging relationships are documented by the Company upon contracting the hedging transaction. This documentation identifies the hedging instrument, hedged item, hedged risk, hedging strategy applied as well as a review of the fit of this strategy to overall Group policy for each hedge type. Furthermore, starting on the start date of hedge relationship and throughout its term, the Company documents the degree to which the hedging instrument is effective in offsetting exposure to changes in cash flow due to the hedged risk for the hedged item. The effective portion of changes in value of financial instruments designated as cash flow hedges is immediately recognized in equity under "Capital reserve in respect of cash flow hedging", and the non-effective portion is immediately recognized in the statement of operations. Cash flow hedge accounting is discontinued when the hedging instrument expires, is sold or realized or when the hedging relationship no longer meets the minimum hedging conditions. Subsequent to discontinuation of hedge accounting, the amounts recognized in shareholders' equity are recognized in the statement of operations when the hedged item or the hedged anticipated transactions are recognized in the statement of operations.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
p.
Revenue Recognition Base and Commission Attribution to Agents (1)
Revenues from sale of flight tickets are included as unearned revenues under current liabilities until the service is provided or up to 2 years from the sale date, whichever is earlier. Air passenger revenues also include revenues where the service is provided by the Company, whereas flight tickets are sold by other airlines. Furthermore, air passenger revenues also include revenues due to code share agreements with other airlines. In such cases, when the service is provided by the other airlines, while the sale is made by the Company, revenues are stated on net basis. Regarding the frequent flyer programs, staring from its financial statements for the first quarter of 2009, the Group has applied IFRIC 13 – "customer loyalty programs". Accordingly, service sales transactions in which the Group grants its customers bonuses are treated as multi-component transactions, and the payment received from the customer will be allocated to its different components based on the fair value of the credit award. The proceeds charged to bonus are recognized as income when the points are redeemed and the Company's obligation to provide the service is upheld. On the matter of the impact of the implementation of IFRIC 13, starting from the financial statements for the first quarter of 2009 – see Note 3d below.
(2)
Air cargo revenues are recognized in the statement of operations when the service is provided.
(3)
Agent commissions referring to revenues not yet recognized are included in the financial statements under "pre-paid expenses", and will be recognized as selling expenses in the statement of operations concurrently with revenue recognition.
(4) Interest revenues are accumulated periodically, accounting for the principal to be repaid and using the effective interest method. (5) Dividend revenues due to investments are recognized on the date entitlement for dividends are created. q.
Engine Maintenance and Refurbishment Expenses Maintenance and engine refurbishment expenses (not constituting an overhaul) are recognized in the statement of operations upon actual execution of the engine maintenance or refurbishment work. In cases where the Company has entered into agreements of an insurance nature, the Company records expenses as specified in the insurance agreements, and the cost of refurbishment is incurred by the insurer.
r.
Expenses for Securing Company Services Company contribution to government expenses for securing company services are recognized in the statement of operations when incurred, based on the Company's share of said expenses.
s.
Leases (1)
General Lease agreements are classified as financial leases when terms of the contract transfer all material risk and rewards arising from ownership to the lessee. All other leases are classified as operational leases.
(2)
Rental fee expenses in respect of operational leases (primarily aircraft leases) are recognized based on the straight line method over the term of the lease. In lease agreements where no leasing fee, or a reduced leasing fee, is paid at the start of the leasing period and where other benefits are obtained from the lesser, the Company recognizes expenses based on the straight line method for the duration of the lease.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
t.
Provisions (1)
General Provisions are recognized when the Group has a legal or implied obligation due to a past event, where use of reliably measurable economic resources is expected to discharge said obligation. The amount recognized as provision reflects management's best estimate of the amount to be required for settling the current obligation upon the balance sheet date, accounting for risk and uncertainty associated with said obligation. When the provision is measured using expected cash flows for settlement of the obligation, the carrying amount of the provision is the present value of expected cash flows. When the amount required to settle the current obligation, in whole or in part, is expected to be reimbursed by a third party, the Group recognized an asset, in respect of said reimbursement, up to the amount of the provision recognized, only when it is virtually certain that such indemnification would be received and when it may be reliably measured.
(3)
Lawsuits These financial statements include appropriate provisions with regard to lawsuits filed against Group companies which Group management believes would not be rejected or eliminated, although Group companies contest these claims. These lawsuits are treated in accordance with IAS 37. Pursuant to these provisions, provisions are included in respect of claims likely to materialize (probability higher than 50%), which Group management believes, based on advice of legal counsel, to be appropriate to the circumstances of each and every case.
u.
Share-Based Payments Share-based payments to employees, settled using Group equity instruments, are measured at fair value upon their grant date. The Group measures, upon the grant date, the fair value of equity instruments granted by using the Black & Scholes model. When the granted equity instruments do not vest until employees complete a specified period of service, the Company recognizes the share-based payment agreements in its financial statements over the vesting period against an increase in shareholders' equity, under "Capital reserve in respect of share-based payment". Upon each balance sheet date, the Company estimates the number of equity instruments expected to vest. Change in estimate relative to prior periods is recognized in the statement of operations over the remaining vesting period.
v.
Taxes on Revenue (1)
General Expenses (revenues) in respect of taxes on revenue include all current taxes, as well as total change in deferred tax balances, except for deferred taxes arising from transactions recognized in equity.
(2)
Current Taxes Current tax expenses are calculated based on taxable revenue of the Company and consolidated companies during the reported period. The taxable revenue differs from income before taxes on revenue, due to inclusion or exclusion of revenue and expense items which are taxable or deductible in different reporting periods, or which are not taxable or deductible. Assets and liabilities in respect of current taxes were calculated based on the tax rates and taxation legislation enacted, or effectively enacted, by the balance sheet date.
(3)
Deferred Taxes Group companies generate deferred taxes in respect of temporary differences between the value of assets and liabilities for tax purposes and their carrying amount in the financial statements. The deferred tax balances (assets or liabilities) are calculated using the tax rates expected upon their realization, based on the tax rates and taxation legislation enacted, or effectively enacted, by the balance sheet date. Deferred tax liabilities are usually recognized in respect of all temporary C-19
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
differences between the value of assets and liabilities for tax purposes and their carrying amount in the financial statements. Deferred tax assets are recognized in respect of all deductible temporary differences up to the amount for which taxable revenue is expected to allow for utilization of the deductible temporary difference. In calculating deferred taxes, taxes which would apply in case of realization of investments in investees are not accounted for, since the Group intends to hold and develop said investments. In addition, the Company did not account for deferred taxes for profit distribution in said companies, since dividends are tax exempt. Deferred tax assets and liabilities are stated on an offset basis, when an enforceable legal right exists to offset tax assets against tax liabilities, and when they refer to taxes on revenue imposed by the same tax authority, where the Group intends to settle the tax assets and liabilities on net basis. The Company and several consolidated companies are jointly assessed for taxes on revenue, therefore deferred tax assets and deferred tax liabilities of said companies are presented on offset basis. w.
Employee Benefits (1)
Post-Employment Benefits Post-employment benefits at the Group include: pensions, severance pay liability, adjustment pay to executives, redemption of sick pay and certain benefits to Company retirees. Some postemployment Company benefits are defined contribution plans and some are defined benefit plans. Expenses in respect of Company liability to deposit funds to a defined contribution plan are recognized in the statement of operations upon provision of employment services for which the Company is liable to make said deposit. Expenses in respect of defined benefit plans are recognized in the statement of operations based on the Projected Unit Credit Method, using an actuarial estimation prepared upon each balance sheet date. The present value of Company obligations in respect of defined benefit plans is determined by discounting expected future cash flows expected from the plan using market yield of government bonds denominated in the currency in which plan benefits are to be paid, and having a term to maturity approximately equal to the expected plan settlement date. Actuarial gain or loss in excess of 10% over the present value of the obligation in respect of a defined benefit plan and the fair value of plan assets as of the start of the period, whichever is higher, are amortized over the remaining average service duration expected for employees participating in the plan. Company liability in respect of a defined benefit plan, presented on the Company balance sheet includes the present value of the liability in respect of defined benefit, plus actuarial gain (less actuarial loss) yet to be realized, net of the fair value of plan assets.
(2)
Other Long-Term Employee Benefits Other long-term employee benefits are benefits expected to be utilized or payable in a period over 12 months from the end of the period in which the service qualifying for the benefit was rendered. Other employee benefits at the Company the anniversary bonus. This benefit is recognized in the statement of operations using the Projected Unit Credit Method, using actuarial estimates prepared upon each balance sheet date. The present value of Company obligation in respect of the benefit in question is determined by discounting expected future cash flows expected from the plan using market yield of government bonds denominated in the currency in which benefits are to be paid, and having a term to maturity approximately equal to their expected settlement date.
(3)
Short-Term Employee Benefits Short-term employee benefits are benefits expected to be utilized or payable in a period within 12 months from the end of the period in which the service qualifying for the benefit was rendered. Short-term employee benefits at the Company include Company liability in respect of wages, bonuses and paid leave. These benefits are recognized in the statement of operations when generated. The benefits are measured according to the non-capitalized sum the Company projects it
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
will pay for realization of this entitlement. The difference between the short-term benefits to which an employee is entitled and the amount paid for them is recognized as a liability. (4)
Early Retirement Plans Company liability in respect of early retirement plans are recognized in the statement of operations when the Company is committed to a formal employment termination plan, including, at least, the site, position and estimated number of employees to be terminated, the benefits to which terminated employees are eligible and the date on which the plan would be executed. Furthermore, the time until implementation is complete should be such that material changes to the plan are unlikely. The benefit level is determined using the discount rate for government bonds.
x.
Earnings per Share The Company calculates basic earnings per share as regards gain or loss, attributed to holders of Company shares by dividing the income or loss attributed to holders of Company ordinary shares by the weighted average number of ordinary shares outstanding during the reported period. In order to calculate diluted earnings per share, the Company adjusts the earnings or loss attributed to holders of ordinary shares, and the weighted average number of shares outstanding, for impact of all potentially dilutive shares.
y.
Exchange Rates and Linkage Basis (1)
Balances in foreign currency, or linked to foreign currency, are included in financial statements according to official exchange rated published by the Bank of Israel as of the date of the balance sheet.
(2)
Balances linked to the Consumer Price Index are presented using the most recent known CPI value on the balance sheet date.
(3)
Below are data for USD exchange rates and CPI in Israel: 2009 CPI (in points) USD/NIS exchange rate USD/EUR exchange rate USD/Pound Sterling Exchange Rate
As of December 31 2008 2007
114.8 3.775 0.694 0.618
110.4 3.802 0.718 0.685
106.4 3.846 0.680 0.499
For the Year Ended December 31 2009 2008 2007
Change in %: CPI USD/NIS exchange rate USD/EUR exchange rate USD/Pound Sterling Exchange Rate
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3.9% (0.7%) (3.3%) (9.9%)
3.8% (1.1%) 5.6% 37.4%
3.4% (9.0%) (10.4%) (2.2%)
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 3
-
New Financial Reporting Standards and Clarifications Published a.
New standards and interpretations influencing the current period and/or previous reporting periods: (1)
Standards Influencing Presentation and Disclosure
•
IFRS 8 - Operating Segments The standard, which supersedes IAS 14, sets forth how a corporation is to report information by segment in its annual financial statements. Inter alia, the standard stipulates that the company's segment reporting shall be based on information used by company management for evaluation of segment performance, and for making decisions with regard to resource allocation to the different operating segments. The standard applies for annual reporting periods starting on January 01, 2009 with retroactive adjustment of comparison figures for prior reporting periods. The standard allows for early adoption. On the matter of reporting on Company operating segments in accordance with IFRS 8, including retroactive adaptation of comparison numbers, see Note 37 below.
•
IFRS 8 - Operating Segments (Revision) – Disclosure Regarding Segment Assets This revision states that disclosure shall be provided regarding the measurement of the assets or a reportable segment only if this information is provided the chief operational decision maker on a regular basis. This revision shall be implemented retroactively for yearly reporting periods starting January 1 2010 or subsequently. The Company has adopted the revision in question by way of early adoption. In light of this, segment assets were not presented in these Financial Statements.
•
IAS 1 (Revised) – Presentation of Financial Statements The standard sets forth the presentation required in financial statements, and provides details of a general framework for the outline of a financial statement as well as the minimum content to be included in such statement. In the revision of these standards, changes were made to the current presentation format of financial statements, and presentation and disclosure requirements with regard to financial statements have been expanded, including presentation of an additional statement included in the financial statements, named "statement of comprehensive income", as well as the addition of a balance sheet as of the start of the earliest period presented in the financial statements in case of change in accounting policy by means of retroactive application, in cases of re-statement and in cases of re-classification. The standard applies, retroactively, to reporting periods starting January 01, 2009. According to the standard, the Group presents a report on its total earnings which specifies total other earnings components separately from the components shown in the Statement of Operations as well as a report on changes in shareholders' equity presenting balances for transactions with shareholders, pursuant to their role as shareholders. In addition, the Company presents a report on its financial status for the earliest period presented, this as the financial statements included reclassifications, as per Note 3d.
•
IFRS 7 (Revision) "Financial Instruments: - Disclosure" This amendment expands the required disclosure regarding liquidity risk and the measurement of fair value, while establishing a three-tier grading for the presentation of fair value measurements. The amendment applies to yearly periods starting January 1 2009 or subsequently. The amendment will be implemented retroactively, see Note 31. The implementation of the standard has no impact on the Group's reported operating results and financial status. In accordance with the revision's transition orders, the Group chose not to present comparative information regarding the disclosure required in accordance with the revision.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(2)
Standards and Clarifications Influencing the Reported Results of the Financial Status
•
IFRIC 13 – Customer Loyalty Programs This clarification stipulates that transactions for the sale of services, wherein the company awards its customers with points, shall be treated as multi-component transactions, and the payment received from the customer will be allocated to its different components based on the fair value of the credit award. The proceeds attributed to the award shall be recognized as revenue when the credit awards are cashed and the company is liable to provide the rewards. This clarification applies retroactively for yearly reporting periods beginning January 1 2009. Regarding the impact of the retroactive implementation, see Note 3d below.
•
IAS 19 (Revision) – Employee Benefits The revision of IAS 19 "Employee Benefits", stipulates that an accumulated right to compensation for absences shall be measured as a short-term employee benefit, or as other long term employee benefits based on the date the employee's right to receive the benefit was created. As a result, the Group presents vacation benefits as short term employee benefits, measured at the height of the non-capitalized sum the Group expects to pay for the realization of this right. The revision applies retroactively for yearly periods starting January 1 2009 or subsequently. Regarding the impact of retroactive implementation on the remainder of financial statement items, see Note 3d below.
b.
New standards and clarifications, already in effect, that have no material impact on the current period and/or previous reporting periods: •
IFRS 2 (Revision) – "Share-Based Payment" – Vesting Conditions and their Cancellation This revision determines which vesting conditions must be taken into account in measuring fair value upon granting share-based payment and the accounting treatment of instruments with no vesting conditions and their cancellation. The revision apples retroactively to yearly reporting periods starting January 1 2009. The implementation of this revision has no impact on the Group's Financial Statements.
•
IAS 32 (Revision), Financial Instruments: Presentation and IAS 1, Presentation of Financial Statements The revision to IAS 32 changes the definition of financial liability, financial asset and capital instrument and states that certain financial instruments that may be exercised by their holders shall be classified as capital instruments. This revision applies retroactively to yearly reporting periods starting January 1 2009. Implementation of the revision has no impact on the Group's financial statements.
•
IFRIC 9 (Revision) Reexamination of Embedded Derivatives and IAS 39 Financial Instruments: Recognition and Measurement This revision makes clear that upon reclassification of a financial asset outside the "fair value by way of statement of operations" group, the need to separate derivatives embedded in it shall be studied. The revision applies retroactively to yearly reporting periods starting January 1 2009. Implementation of the revision has no impact on the Group's financial statements.
c.
New standards and clarifications that have been published and are not in effect, which have not been adopted by the Group by way of early adaptation, which are expected to or may have an impact on future periods. •
IAS 17 (Revision) Leases IAS 17 "Leases" states that land leases shall be classified as financial leases or operational leases using the general principles of the standard, taking into account that land is an asset with an infinite
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
financial lifespan. Pursuant to the revision the general prohibition of classifying land leases as financial leases when the land does not pass on to the lessee at the end of lease period. The revision shall apply retroactively to yearly reporting periods starting January 1 2010 or subsequently. The revision shall be applied retroactively to existing leases when the required information is available at the beginning of the lease. When the required information is not available, land leases shall be reexamined on the date the revision is adopted. Implementation of the revision is not expected to have any material impact on the Group's financial statements. •
IAS 39 (Revision) Financial Instruments: Recognition and Measurement IAS 39 :"Financial Instruments: Recognition and Measurement" states that the deviation from the standard's incidence applies only to hedging agreements between buyer and seller for the purchase or sale of a purchased body in business combinations in a future purchase date the periods of which does not exceed a reasonable period for securing the required approvals and completing the transaction. The revision shall be applied on a "here onward" basis to all contracts in effect for yearly reporting periods starting January 1 2010 or subsequently This revision also clarifies that profits or losses charged to hedging instruments in hedging the cash flow of a projected transaction shall be reclassified from other total profit to the Statement of Operations over the course of the period in which the projected hedged cash flows impact the gain/loss. The revision shall be applied on a "here onward" basis to all contracts in effect for yearly reporting periods starting January 1 2010 or subsequently. Implementation of the revision is not expected to have a material impact on the Group's Financial Statements.
•
IFRS 9 Financial Instruments The new standard specifies classification and measurement directives for financial assets. The standard requires that all financial assets be treated in the following manner: •
Debt instruments shall be classified and measured after first recognition according to amortized cost or according to fair value by way of the statement of operations. Determining the measurement model shall take into account the business model of the entity on the matter of financial asset management and in accordance with the characteristics of the contractual cash flows deriving from those financial assets.
•
A debt instrument which according to the tests is measured at amortized cost may be designated to fair value by way of the statement of operations only if the designation cancels a lack of continuity in recognition and measurement that would have been created if the asset had been measured at amortized cost. Capital instruments shall be measured at fair value by way of the statement of operations.
•
Capital instruments may be designated on the date of first recognition to fair value when profits or losses are charged to other total earnings. Instruments designated in such a manner shall no longer be subject to examination for devaluation and resulting gain or loss shall not be passed on to the statement of operations, including upon realization.
•
Embedded derivatives shall not be separated from a host contract covered by the standard. Instead, mixed contracts shall be measured as a whole at amortized cost or at fair value, in accordance with the business model tests and contractual cash flows.
•
Debt instruments shall be reclassified from amortized cost to fair value and vice versa only when the entity changes its business model to the management of financial assets.
•
Investments in capital instruments without a quoted price in an active market including derivatives of these instruments shall always be measured at fair value. The option to measure by cost under certain circumstances has been cancelled. At the same time, the standard notes that under specific circumstances cost may be an appropriate estimate of fair value.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
The standard applies retroactively with the exception of exceptional cases as detailed in the standard for yearly reporting periods starting January 1 2013 or subsequently. Early application is possible. Entities implementing the standard by way of early application prior to January 1 2012 may apply it non-retroactively. At this stage Company management cannot estimate the impact of the standard's implementation on its Financial Statements d.
Retroactive adaptation due to retroactive implementation of changes in accounting policy: IFRIC 13 – Customer Loyalty Programs Until December 31 2008, the provision for frequent flyer clubs was calculated based on an estimate of the effective costs to the Company as a result of the use of the benefits awarded by the plans in question, while using the probability estimate to take advantage of the benefits. The effective cost was based on the estimate of the expected relative weight, in Management's opinion, of the marginal expenses the Company may bear and of the loss of alternative revenues deriving from the rejection of paying customers, in the realization of the benefits in question. Starting January 1 2009, the Group has applied IFRIC 13 regarding customer loyalty programs. This clarification states that flight ticket sales transactions in which the Company awarded its customers frequent flyer points (hereinafter – "the Points"), which may be used in the future for flight tickets, shall be treated as multi-component transactions, and the payment received from the customer will be allocated to its different components based on the fair value of the credit award, with the remnant charged to the ticket. The proceeds charged to points shall be recognized as income when the points are redeemed and the Company's obligation to provide the service is upheld. In determining the fair value of frequent flyer points awarded Company customers, the Company based its calculations on the sales price (after adjustments) of frequent flyer points sold to business partners. IAS 19 – Employee Benefits Up until December 31 2008, the vacation provision was calculated while differentiating between short term and long term vacations, this based on Company Management's estimates regarding the timing of the exercise of vacation days of Company employees. Under this assumption, the provision to long term vacation was calculated using actuary estimates. The Company's liability for total employee vacation days was presented in the framework of liabilities due to employee benefits in the framework of the Company's current liabilities. Starting January 1 2009, the Company has applied the revision to IAS 19, "Employee Benefits." This revision states that accumulated entitlement to compensation due to absences shall be classified as a short term employee benefit, or as a long term employee benefit based on the date on which the employee received the right to the benefit. As a result, the Company presents vacation benefits as short term employee benefits, equal to the noncapitalized sum the Company expects to pay for the exercise of this right, while taking into account pay raises expected within a year of the balance sheet date.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Impact of the retroactive adaptation on balance sheet items:
Other receivables Prepaid expenses – current Prepaid expenses – noncurrent Trade payables Provisions – current Employee benefit obligations – current Unearned revenues – current Other payables - noncurrent Deferred tax liabilities Unearned revenues – noncurrent Accumulated loss
Other receivables Prepaid expenses – current Prepaid expenses – noncurrent Trade payables Provisions – current Employee benefit obligations – current Unearned revenues – current Other payables - noncurrent Deferred tax liabilities Unearned revenues – noncurrent Accumulated loss
As of December 31 2008 Impact of Retroactive Implementation due to Employee Vacation Benefits Reclassification Thousands of Dollars
As Reported in the Past
Impact of Retroactive Implementation due to Frequent flyer Programs
23,523 19,247
4,615
-
(3,830) 724
19,693 24,586
(134,190) (81,076)
(53,873)
-
3,106 (3,297) 77,900
3,106 130,893 (57,049)
(80,174) (172,445)
-
(7,756) -
(25,466)
(87,930) (197,911)
(16,203)
12,314
2,017
3,297 -
3,297 (1,872)
152,969
36,944
5,739
(52,434) -
(52,434) 195,652
As Reported in the Past
Impact of Retroactive Implementation due to Frequent flyer Programs
22,254 25,096
5,606
-
(4,626) 1,512
17,628 32,214
(167,420) (89,621)
(51,381)
-
3,114 (2,278) 74,483
3,114 165,142 (66,519)
(87,578) (188,751)
-
(7,216) -
(24,349)
(94,794) (213,100)
(64,576)
11,444
1,950
2,278 -
2,278 (51,182)
114,102
34,331
5,266
(50,134) -
(50,134) 153,699
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As of December 31 2007 Impact of Retroactive Implementation due to Employee Vacation Benefits Reclassification Thousands of Dollars
As Reported in These Financial Statements
As Reported in These Financial Statements
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
The influence of the retroactive adjustment on the report items on gain/loss: For the Year Ending December 31 2008 Impact of Impact of Retroactive Retroactive Application Application Due Due to to Employee As Reported in Frequent flyer Vacation These Financial As Reported program Benefits Statements in the Past Thousands of Dollars (Unaudited) Operating revenues Operating expenses Selling expenses General and administrative expenses Loss before income taxes Tax benefit Loss for the period Loss per share (NIS 1 par value) in USD Basic loss per share Diluted loss per share
2,101,065 (1,775,849) (228,808)
(4,739) 1,256
(480) (21)
2,096,326 (1,776,329) (227,573)
(97,063) (45,684) 6,862 (38,822)
(3,483) 870 (2,613)
(40) (541) 69 (472)
(97,103) (49,708) 7,801 (41,907)
(0.08) (0.08)
-
-
(0.08) (0.08)
For the Year Ending December 31 2007 Impact of Impact of Retroactive Retroactive Application Application Due Due to to Employee As Reported in Frequent flyer Vacation These Financial As Reported program Benefits Statements in the Past Thousands of Dollars (Unaudited) Operating revenues Operating expenses Selling expenses General and administrative expenses Loss before income taxes Tax benefit Loss for the period Loss per share (NIS 1 par value) in USD Basic loss per share Diluted loss per share
Note 4
-
1,932,450 (1,517,695) (230,886)
(12,443) 4,341
(869) (37)
1,920,007 (1,518,564) (226,582)
(91,619) 58,412 (13,586) 44,826
(8,102) 2,025 (6,077)
(72) (978) 254 (724)
(91,691) 49,332 (11,307) 38,025
0.09 0.09
(0.01) (0.01)
-
0.08 0.08
Critical Accounting Considerations and Key Sources for Estimates of Uncertainties a. General In applying Group accounting policy, as set forth in Note 2 above, company management is sometimes required to exercise considerable judgment with regard to estimates and assumptions about the book value of assets and liabilities, which may not be available from other sources. These estimates and related assumptions are based on past experience and other factors deemed relevant. Actual results may differ from these estimates.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Estimates and underlying assumptions are regularly reviewed by management. Changes in accounting estimates are only recognized in the period in which a change was made to the estimate, if the change only affects that period, or are recognized in said period and in subsequent periods in cases where the change affects both the current period and the subsequent periods. b. Critical Accounting Considerations and Key Sources for Estimates of Uncertainties (1)
Provisions for Legal Proceedings As of December 31, 2009, claims pending against the Company amount to a total of $139 million. In addition, there are claims not quantified in monetary terms. A provision was made in respect of some of these claims in the amount of $2.6 million. (The aforementioned claim and provision amounts exclude tax assessments issued to the Company – see sub-section 2 below). In order to review of the legal validity of the aforementioned claims, as well as to determine the probability of their realization to the Company's detriment, Company management relies on the opinion of legal and professional counsel. After the Company's counsel have formed their legal opinion and the Company's probability with regard to the claim subject, whether the Company would have to bear its outcome or may postpone it, Company management estimates the amount to be included in the financial statements, if any. Interpretation by the Company of the current legal position which differs from that of its legal counsel, different understanding by Company management of contracts as well as changes due to applicable legislation or addition of new facts – all may impact the value of the overall provision for legal proceedings pending against the Company, thereby materially impacting its financial standing and operating results.
(2)
Taxes on Income The company has tax assessments for which the tax consequences are uncertain. The Company recognized liabilities in respect of tax consequences of these transactions, based on Management estimates, which rely on professional counsel with regard to timing and amount of the tax liability which may arise there from. When the tax consequence of such transactions differs from Management estimates, tax expenses would differ upon determination of the final assessment.
(3)
Employee Benefits The present value of the Company's severance pay liability, as well as that of a pension plan and other employee benefits, is based on multiple data determined based on actuarial estimate, using multiple assumptions, including with regard to discount rate. Changes in actuarial assumptions may impact the carrying amount of the Company's severance pay and pension liabilities. The Company estimates the discount rate annually, based on the discount rate for government bonds. Other key assumptions are made based on prevailing market conditions, as well as on the Company's past experience. For further details of assumptions made by the Company, see Note 2w.
(4)
Aircraft Impairment As set forth in Note 2l above, for any aircraft fleet where indications of impairment exist, the Company estimates the recoverable amount for said fleet. The recoverable amount is the higher of the aircraft sale price and its use value. In estimating the use value, the Company estimates the future cash flows, discounting them to their present value using a discount rate which reflects current market estimates. In so doing, the Company has relied on forecasts related, inter alia, to expected scope of operations, prices of flight tickets and of bills of lading, operating cost and future interest rates. Material changes to these estimates, or part thereof, may impact the recoverable amount of said aircraft.
(5)
Frequent Flyer Clubs As stated in Note 2.q.(1) for establishing the balance of unearned revenues for frequent flyer points accumulated as of the report date and yet unused, the Company based its calculations on the sales prices of frequent flyer points to business partners (after adjustments) and on the Company's experience on the matter of point usage projections. Changes in Management estimates regarding point values may impact the Company's revenues.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(6)
Useful lifespan of Fixed Assets Company aircraft are amortized throughout their useful lifespan. As stated in Note 2.j, Company Management studies the useful lifespan of all fixed asset items each yearly reporting period. Actual changes in the balance of useful lifespan will lead to changes in impairment rates.
(7)
Fair Value of Financial Instruments The Company presents derivative financial instruments at fair value. As stated in Note 2p, the fair value of financial instruments classified as first grade is based on the use of prices quoted in active markets, the fair value of financial instruments classified as second grade is based on the use of observed data, direct or indirect, while the fair value of financial instruments classified as third grade is based on the use of data not based on observed market data, see Note 31k.
Note 5
-
Cash and Cash equivalents a.
Components As of December 31 2008 2009 Thousands of Dollars Cash and bank balances Short term deposits Total cash and cash equivalents
b.
1,416 105,271 106,687
35,351 15,249 50,600
Restricted Deposits As of December 31 2008 2009 Thousands of Dollars Restricted deposits in favor of jet fuel hedging agreements
Note 6
-
7,003
152,969
Short-Term Deposits a.
Composition As of December 31 2008 2009 Thousands of Dollars Short term bank deposits - in NIS
b.
7,933
7,821
As of December 31 2009 – an NIS deposit worth $7,933 thousand (including accrued interest) deriving from the proceeds of option (Series 1) exercises received by the Company, greater than the sum of the "deficit" in the compensation fund of the entitled employees – as stated in Note 23.b.3.b (as of December 31 2008 the deposit in question equaled $7,821 thousand). The Company is studying the existence of limitation regarding its ability to make use of the above balance of the proceeds according to the agreement with the State and with the workers' representatives. The Company approached the Accountant General of the Ministry of Finance on this matter. As of the publication of these Financial Statements a response has yet to be received. Until the matter is resolved, the deposit is presented against an obligation to the State of Israel
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 7
-
Derivative Financial Instruments a.
Composition : Current Assets As of December 31 2008 2009 Thousands of Dollars
Derivative financial instruments designated as hedging items: Jet fuel hedging transactions Forward transactions for the purchase of foreign currency Financial instruments at fair value via gain/loss: Interest rate swap transactions
Note 8
-
Non-Current Assets As of December 31 2009 2008 Thousands of Dollars
Total Assets As of December 31 2009 2008 Thousands of Dollars
6,469
-
2,255
-
8,724
-
4,737 11,206
-
2,255
-
4,737 13,461
-
-
174
-
-
-
174
11,206
174
2,255
-
13,461
174
b.
See note 25 below regarding other financial liabilities
c.
See Note 31 below regarding financial instruments and projected exercise dates of financial assets.
Trade Receivables a.
Composition : As of December 31 2008 2009 Thousands of Dollars Open accounts Credit card companies Airlines (see 1 below) Less – provisions for doubtful debts
85,761 15,422 13,162
71,688 20,548 15,308
114,345 (2,259)
107,544 (1,498)
112,086
106,046
1.
Most accounts between airlines are settled through the International Air Transport Association (IATA) clearing system.
2.
Total trade receivable debts (less provisions for doubtful debts) to the Group as of December 31 2009 amounted to a total of $112,086 thousand (as of December 31 2008 a total of $106,046 thousand), and included the sums presented above. The average credit for Company services provided is 27 days (in 2008: 26 days). Group customers are not required to pay interest for this period. The Group has, in general, several types of trade receivables in Israel and abroad: IATA agents, non-IATA agents and business customers. The credit rating of IATA agents is established in accordance with parameters set by the Israel Airline Panel, BSP overseas and CASS as regards cargo. The bodies in question require collateral or guarantees for these agents in accordance with the credit quality of each trade receivable. In addition, the Company holds insurance for the credit risk of IATA agents in Israel. This insurance does not cover all the Company's exposure to credit risk. At the same time, according to the Company's estimates this risk is low. As of non-IATA agents, the Company requires guarantees and/or collateral, while for its business customers the Company holds credit risk insurance.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
The balance of Group trade receivables as of December 31 2009 includes a total of $3,121 thousand the repayment date of which has passed (as of December 31 2008: $3,194 thousand), but the Group, based on its past experience and on the payables' credit rating, has not made a provision to doubtful debts for them, as in its opinion they are collectable. The Group does not hold collateral for these debts. The average debt period of trade receivable debts the repayment date of which has passed as of December 31 2009 is 55 days. b.
Age of debts deviating from credit days established for which no provision has been included in doubtful debts: As of December 31 2008 2009 Thousands of Dollars 0-30 days 31-60 days 61-90 days Over 90 days Total
c.
1,126 710 150 1,135 3,121
870 1,105 716 503 3,194
Movement in the provision for doubtful debts: As of December 31 2008 2009 Thousands of Dollars Balance at the beginning of the year Loss from impairment due to receivables Doubtful debts erased Sums recovered over the year Balance at the end of the year
1,498 1,423 (523) (139) 2,259
1,535 253 (290) 1,498
In establishing the likelihood of the repayment of customer debts, the Company is testing changes in the quality of trade receivable credit from the date said credit was granted until the reporting date. Concentration of credit risks is limited in light of the large customer basis and its distribution into various branches and geographical regions. c.
Age of trade receivable debts for which a provision for doubtful debts was made: As of December 31 2008 2009 Thousands of Dollars 0-30 days 31-60 days 61-90 days Over 90 days Total
83 149 50 1,977 2,259
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18 21 99 1,360 1,498
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 9
-
Other Receivables Composition: 2009
Government institutions Receivables due to renovation of leased engines Other receivables
Note 10 -
2007
4,476 2,391 9,288
4,175 3,807 11,711
3,697 524 13,407
16,155
19,693
17,628
Prepaid Expenses Composition: 2009 15,587 1,477 4,478 3,331
For flight ticket commissions For frequent flyer point commissions Prepaid expenses for aircraft leases Other prepaid expenses
24,873
Note 11 -
As of December 31 2008 Thousands of Dollars
As of December 31 2008 Thousands of Dollars 16,664 1,509 3,830 2,583 24,586
2007 23,496 2,492 4,626 1,600 32,214
Inventory Composition: As of December 31 2008 2009 Thousands of Dollars Jet fuel for consumption Materials and foodstuff Chemicals Other
Note 12 -
13,282 4,619 3,211 835 21,947
2,287 5,237 3,255 693 11,472
Linkage Conditions – Assets Current assets - distribution by linkage conditions: As of December 31 2008 2009 Thousands of Dollars Monetary items: In or linked to USD In Israeli currency (NIS) In or linked to euro Other foreign currency or linked to it
Non-monetary items
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193,926 27,867 18,541 20,736 261,070
271,636 34,882 15,696 15,089 337,303
46,820
36,058
307,890
373,361
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Non-current assets - distribution by linkage conditions: As of December 31 2008 2009 Thousands of Dollars Monetary items: In or linked to USD In Israeli currency (NIS)
Non-monetary items
Note 13 -
3,730 36,222 39,952
2,923 38,837 41,760
1,323,660
1,327,413
1,363,612
1,369,173
Long-Term Bank Deposits
As of December 31 2008 2009 Thousands of Dollars Bank deposits in unlinked NIS Interest rates
1,839 1.70-2.08
2,189 2.70-3.02
The unlinked NIS bank deposits as of December 31 2009 and 2008 are used as security for the repayment of bank loans received by Company employees. The deposits have no predetermined redemption date. Note 14 -
Investment in Another Company Investment in another company to the amount of $1,357 thousand ($1,565 thousand as of December 31 2008) in Societe Internationale de Telecommunications Aeronautiques - (“SITA”) - a non-profit cooperative company of airlines and related entities, whose objective is mainly to provide international telecommunication services to airlines and others. As of December 31, 2009, the Company held 26 shares of €5 par value each, constituting 0.4% of SITA’s share capital.
Note 15 -
Investment in Subsidiaries a.
Subsidiaries: The Group's subsidiaries: Name of Subsidiary
Held Directly Tamam (1) Borenstein (2) Superstar (3) Sun D'Or (4) Katit (5)
Residence
Israel U.S.A U.K Israel Israel
Holding Rate in the Rights of the Capital of Subsidiary As of December 31 2008 2009 % % 100% 100% 100% 100% 100%
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100% 100% 100% 100% 100%
Extant of Investment in Subsidiary(*) As of December 31 2009 2008 Thousands of Dollars 1,617 4,367 (32) 3 -
2,130 4,230 285 3 -
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(*)
The extent of the investment in a company held directly is calculated as a net sum based on the consolidated statements, charged to the shareholders of the parent corporation, of total assets less total liabilities, plus loans given subsidiaries,
1.
Tamam Aircraft Food Industries (BGA) Ltd. ("Tamam") Tamam is primarily engaged in the production and supply of prepared kosher meals for airlines, with most of its sales made to the Company and a small fraction to other airlines and customers. Tamam provides the Company with catering and food services on its aircraft at prices specified by agreements. Tamam's plant is located at Ben Gurion Airport. In accordance with its agreement with the Israel Airports Authority ("IAA"), it may use the area owned by IAA in exchange for agreed-upon authorization fees based on Tamam's turnover. Following the opening of BGA 2000, Tamam estimates that it will have to relocate its plant from its present location and move to a new location. This move is not expected to occur prior to 2013.
2.
Borenstein Caterers Inc. (USA) - (“Borenstein”) Borenstein, a wholly owned subsidiary, is a US corporation operating out of New York’s JFK, and is mostly engaged in the production and delivery of prepared kosher meals for airlines and other institutions, with the Company being its most important customer, holding all of its shares.
3.
Superstar Holidays Ltd. (England) – (“Superstar”) Superstar is registered in England and Wales and is wholly-owned by the Company. It is engaged in the marketing of wholesale tourism packages to travel agents and individual travelers, as well as airline tickets. Superstar has a branch in Israel, as well as branches in several cities abroad. The investment as of December 31 2009 includes a loan to the amount of $332 thousand ($299 thousand as of December 31 2008) to Superstar. This loan is in pounds sterling and does not bear interest.
4.
Sun D'Or International Airlines Ltd. ("Sun D'Or") Sun D'Or operates charter flights within the framework of a commercial policy coordinated with the Company, by means of aircraft leased from the Company, or through the Company. In addition, Sun D’Or sells seat packages on EL AL flights to agents in exchange for commissions. Sun D'Or has a commercial operation certificate, valid for an indefinite period, to transport passengers and cargo on charter flights to and from Israel. In addition, in 2008 and 2009 Sun D'Or was appointed designated carrier to various destinations: Antalya, Zagreb, Bratislava, Rostov and Sochi in Russia and Frankfort and Düsseldorf in Germany. According to the method used by the two companies to settle their accounts, Sun D’Or breaks even at the end of each year.
5.
Katit Ltd. ("Katit") Katit is a fully-owned Company subsidiary which operates several restaurants for Company employees at Ben Gurion Airport, commissaries in the Company's office buildings and the King David Lounge at BGA. In return for the services Katit provides the Company, the Company covers the surplus of operating costs over expenses created by Katit at any time.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
b.
Associated companies: The Group's associated companies: Name of Associate
State of issue
Holding Rate in Regular Shares As of December 31 2008 2009 % %
Extant of Investment in Associated Company (*) As of December 31 2009 2008 Thousands of Dollars
Associated Directly Air Tour (1) ACI (2) Kavei Chufsha Ltd. (3) Sabre Israel (4)
Israel Israel Israel Israel
50% 50% 20% -
50% 50% 20% 49%
13 4 631 648
13 4 428 2,291 2,736
(*)
The extant of the investment in a company held directly is calculated as a net sum based on the consolidated statements, charged to the shareholders of the parent corporation, of total assets less total liabilities, plus loans given associates and the share of the dividends received from them.
1.
Tour Air (Israel) Ltd. ("Air Tour ") The shares of Air Tour are held by Israeli travel agents (50%) and the Company (50%). Air Tour markets the Company’s flights and special promotions of the Company to all of its flight destinations. The shares held by the Company grant it the right to participate and vote in Air Tour’s General Meetings with 50% voting rights and to appoint half of its directors, but do not grant it the right to receive dividends or profits, other than profits derived from investing in Air Tour’s share capital.
2.
Air Consolidators Israel Ltd. ("ACI") ACI is primarily engaged in the consolidation of air cargo at BGA to facilitate the reduction in price of air shipments. Air transport is carried out by the Company, at special prices, and by foreign companies. The shares held by the Company entitle it to participate and vote in the General Meetings of ACI to the extent of 50% and to appoint half of its board members, without the right to receive earnings by way of a dividend distribution or any other benefit, other than earnings and dividends derived from capital gains.
3.
Kavei Chufsha Ltd. (“Kavei Chufsha”) The main area of activity of Kavei Chufsha is the marketing and sale of charter flights to and from Israel and providing associated tourism services. Company sales are to individuals, groups and agents. The investment in Kavei Chufsha is after offsetting dividends received from Kavei Chufsha to the amount of $159 thousand in 2009 (after offsetting dividends received to the amount of $76 thousand in 2008)
4.
Sabre Israel Travel Technologies Ltd. (“Sabre Israel”) Sabre Israel was established within the framework of an agreement signed in 2001 to set up a joint venture between the Company and Sabre Inc. The Company’s share in Sabre Israel is 49% while the share of Sabre Inc. is 51%. Sabre Israel commenced its activities in December 2001 and it provides the travel agents segment in Israel with flight-order services for the airlines of the world, as well as orders for a wide range of additional tourism services worldwide (hotels, vehicles etc.). In addition, Sabre provided support and maintenance services to travel agents in Israel for the "Carmel" system, which up until 2008 was used for flight ticket ordering, pricing, ticketing, inventory management and checkin services, and to which all of the Company's sales offices in Israel and abroad, most Israeli travel agents, general Company agents and several large overseas agents were connected online.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
According to the agreement, the Company and Sabre Inc. pay marketing fees to Sabre Israel, as well as additional marketing fees, which complement Sabre Israel’s pre-tax operating income to cost plus 7%. On October 1 2009 the Company sold its entire holdings in the shared company in return for a payment of El Al's share of the shared company's equity as it existed in the third quarter of 2009. On this date as well, a loan to the amount of $1,228 thousand to Sabre Israel was repaid. As for the settlement with Sabre Israel, see Note 27.d.(c).1. Composition of investment in associated companies: As of December 31 2008 2009 Thousands of Dollars Investment in shares: Cost of shares Share of profits accumulated from purchase date, net (a)
Further investments: Loans (b) Total investment in associated companies (a) (b)
57 591 648
57 1,451 1,508
-
1,228
648
2,736
In 2009 the share of earnings accrued after offsetting dividends received from Kavei Chufsha to the amount of $159 thousand (offsetting $76 thousand in 2008). The loan to Sabre Israel is in dollars and bears interest of LIBOR plus 1.5%. This loan was repaid in full on October 1 2009.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 16 -
Fixed Assets a.
Composition: Buildings and Facilities (1)
Aircraft and Aviation Equipment (2)
Payments for Ground Aircraft Machinery Computers and and and Office Engines (3) Equipment Furnishings Thousands of Dollars
Vehicles and Garage Equipment
Total
Cost As of January 1, 2009 Reclassification Additions Disposals
103,722 2,875 -
2,428,315 22,240 169,231 (264,045)
36,181 (22,240) 156 -
59,728 1,726 (1,257)
123,916 4,682 -
7,821 9 -
2,759,683 178,679 (265,302)
As of December 31, 2009
106,597
2,355,741
14,097
60,197
128,598
7,830
2,673,060
Accrued Depreciation As of January 1, 2009 Annual depreciation Disposals
72,177 2,425 -
1,198,567 112,498 (206,773)
-
52,497 2,207 (1,257)
115,299 5,236 -
6,961 293 -
1,445,501 122,659 (208,030)
As of December 31, 2009
74,602
1,104,292
-
53,447
120,535
7,254
1,360,130
Depreciated Cost: As of December 31 2009
31,995
1,251,449
14,097
6,750
8,063
576
1,312,930
Cost As of January 1, 2008 Reclassification Additions Disposals
100,461 3,261 -
2,419,841 1,316 112,461 (105,303)
2,994 (1,316) 34,503 -
55,793 4,170 (235)
119,643 5,095 (822)
8,150 90 (419)
2,706,882 159,580 (106,779)
As of December 31, 2007
103,722
2,428,315
36,181
59,728
123,916
7,821
2,759,683
As of January 1, 2007 Annual depreciation Disposals
69,518 2,659 -
1,184,311 96,564 (82,308)
-
50,502 2,159 (164)
109,961 5,859 (521)
6,838 342 (219)
1,421,130 107,583 (83,212)
As of December 31, 2008
72,177
1,198,567
-
52,497
115,299
6,961
1,445,501
Depreciated cost: As of December 31 2008
31,545
1,229,748
36,181
7,231
8,617
860
1,314,182
4%-10%
(see b2)
-
Accumulated depreciation
Annual depreciation rate
(1) See h. below. (2) See b. below. (3) See c. below.
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5%-20%
5%-33%
10%-20%
(Mainly 10%)
(Mainly 33%)
(Mainly 15%)
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
b.
Boeing Aircraft and Flight Equipment 1.
Composition
Quantity Type of aircraft As of 12.31.2009 5
2
3
8
4
6
747-400 Passenger craft Spare engines Engine overhauls
747-200F Cargo craft Spare engines Engine overhauls
757-200 Passenger craft Spare engines Engine overhauls
737-700/800 * Passenger craft ** Spare engines Engine overhauls
767 200 (passenger) 200ER (passenger) Spare engines Engine overhauls
777-200 *** Passenger craft Spare engines Engine overhauls
28 Accessories and spare parts - general
* ** ***
2009 Accrued Cost Depreciation Balance Thousands of Dollars
Cost
2008 Accrued Balance Depreciation Thousands of Dollars
472,366 6,600 85,680 564,646
252,314 4,563 38,640 295,517
220,052 2,037 47,040 269,129
465,170 6,600 85,680 557,450
229,158 4,256 38,640 272,054
236,012 2,344 47,040 285,396
83,824 17,481 40,784 142,089
83,824 17,481 30,699 132,004
10,085 10,085
86,682 17,481 87,984 192,147
82,067 17,481 63,397 162,945
4,615 24,587 29,202
108,543 27,802 136,345
83,269 10,838 94,107
25,274 16,964 42,238
175,339 2,102 70,246 247,687
124,144 1,889 39,779 165,812
51,195 213 30,467 81,875
272,569 6,390 40,155 319,114
56,867 2,721 11,456 71,044
215,702 3,669 28,699 248,070
144,348 6,390 36,590 187,328
50,079 2,338 26,882 79,299
94,269 4,052 9,708 108,029
156,377 1,649 57,008 215,034
131,127 1,141 38,037 170,305
25,250 508 18,971 44,729
33,995 156,377 1,649 72,519 264,540
33,995 123,335 1,065 47,175 205,570
33,042 584 25,344 58,970
665,703 21,157 67,030 753,890
153,298 6,330 33,515 193,143
512,405 14,827 33,515 560,747
665,703 21,157 67,030 753,890
130,138 5,247 33,515 168,900
535,565 15,910 33,515 584,990
2,131,118
956,120
1,174,998
2,203,042
1,054,580
1,148,462
224,623 2,355,741
148,172 1,104,292
76,451 1,251,449
225,273 2,428,315
143,987 1,198,567
81,286 1,229,748
Includes three aircraft in financing leases – see Note 16.d.3. Including adaptations to aircraft leased via operational lease to the amount of $2.8 million, deducted across the lease period. Including three aircraft leased via financial lease – see Notes 16.d.1 and 16.d.2.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
2.
Depreciation Rates The annual depreciation rate of each aircraft is decided considering its residual value, as it appears in the prevailing aircraft pricelist, which estimate the value of an aircraft for the year that management assesses the use to the Company of that aircraft will end. The following are depreciation rates for Company aircraft relative to cost (after deduction of residual value) for year 2009: Aircraft
Annual Depreciation Rate
737 747-200 747-400 757 767 777
4.6% 4.7% 6.0% 3.7% 5.5% 4.8%
As of December 31, 2009, the balance of years remaining for the Company's aircraft fleet is between one and nineteen years. The annual depreciation rate of the spare engines (engine body) was determined according to the average number of years remaining for that fleet of aircraft to which the engines are allocated. Engine overhauls are depreciated according to potential engine hours that the overhaul added to that engine, and according to an estimate of the projected engine hours for that aircraft fleet in the coming years. As of December 31, 2009, the balance of years remaining for general engine overhauls ranges between 3 months and 8 years. Accessories and spare parts allocated to a specific aircraft fleet are depreciated over the average remaining life of that fleet. Accessories and spare parts that are not allocated to a specific fleet are depreciated at according to the average remaining life of the entire Company fleet. c.
Payments on Account of Aircraft and Flight Equipment – Composition:
Advance payment for the purchase of three 737-800 aircraft Advance payment for the purchase of four 777-200 aircraft, see Note 16.e.1. Payment for the option to purchase additional 777-200 aircraft, see Note 16.e.1. Seat replacement (*) Others (*) d.
As of December 31 2008 2009 Thousands of Dollars 21,000 10,606 10,606 2,000
2,000
1,240 1,491 1,335 36,181 14,097 $22,240 thousand – reclassified from payments on account of aircraft and engines as of December 31 2008 to the cost of aircraft and flight equipment as of December 31 2009.
Aircraft under financing leases: 1.
In June 2002, the Company received and operated a fourth 777-200 aircraft. The aircraft, which is subleased to the Company for 12 years in exchange for leasing fees identical in amount to the repayment of the principal and interest amounts payable to Citibank. The Company has an option to acquire this plane at the end of the loan-repayment period for $1.00. The aircraft is included in the Financial Statements under Company fixed assets (depreciated throughout the economic enjoyment period expected from it) against the listing of a long term liability due to the loan received from Citibank to finance most of the cost of the aircraft.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
e.
2.
In July and August 2007, the Company received and operated two new 777-200 aircraft (the fifth and sixth of this model) from Boeing. In July 2007, a financing agreement was signed with a consortium of several foreign banks to finance the purchase of the planes. For this purpose, a new foreign company, Yochevet Leasing LLC (hereafter: "the Foreign Company"), was established in Delaware. The ExIm Bank provided a bank guarantee to the lending banks. The lending banks, the foreign company, ExIm Bank and the Company appointed Wells Fargo as trustee of the collateral (hereafter: "Trustee of the Collateral"). The shares of the Foreign Company were pledged in favor of the Trustee of the Collateral, and the planes were pledged to the ExIm Bank. Additionally, the trustee of the collateral appoints the board of directors in the foreign company. Both aircraft, which are leased by the foreign company from Boeing, are subleased to the Company for 12 years in exchange for leasing fees identical in amount to the repayment of the principal and interest amounts payable to the lending banks. The Company has an option to acquire those plane at the end of the loan-repayment period for $1.00. The two aircraft, which are included in the financial statements within the Company’s fixed assets (depreciated over the expected period of economic benefit), against an entry to long-term loans for the loan received to finance most of the plane’s cost. For further details regarding terms of loans received for the aircraft, see Note 22.d.2.
3.
On April 10, 2008, the Company signed an agreement with a Spanish airline, whereby 3 new 737800 aircraft would be acquired at a total investment of $49 million per plane. The aircraft were delivered in April, May and June 2009. To complete the transaction and finance the purchase, the Company received the approval of the Export-Import Bank of the United States (hereafter: "the Bank" or "EXIM") for $37.5 -$38 million in financing for each aircraft. In each of the above aircraft deliveries the Company signed an agreement with the Spanish airline to cancel the direct purchase of the aircraft in question, so that the aircraft would be sold by the Spanish airline to Boeing, with the Company purchasing the aircraft directly from Boeing. Immediately prior to the aircraft delivery dates, for financing purposes, financing agreements were signed with EXIM to purchase the aircraft. For this purpose 2 new foreign companies were founded in Delaware named Miriam Leasing LLC and Aaron Leasing LLC (hereafter: "the Foreign Companies"). The Bank, in addition to financing, also provided bank guarantees for the transaction. The Bank (as lender and guarantor), the Foreign Companies and the Company appointed Wells Fargo as trustee (hereafter: "the Trustee"). Liens were placed on the shares of the Foreign Company in favor of the Trustee. Liens were placed on the aircraft by the Bank. In addition, the Trustee appoints the directors of the Foreign Company. The three aircraft, which are leased by the Foreign Company from Boeing, are subleased to the Company for 12 years in exchange for leasing fees identical in amount to the repayment of the principal and interest amounts payable to the lending banks. The Company has an option to acquire this plane at the end of the loan-repayment period for $1.00. The three aircraft are included in the financial statements within the Company’s fixed assets (depreciated over the expected period of economic benefit), against long-term loans for the loan received to finance most of the plane’s cost. For further details regarding terms of loans received for the aircraft, see Note 22.d.4.
Aircraft and engine purchase and sales agreements: 1.
In March 2008 the Company signed an agreement with Boeing Corp. whereby it would acquire from Boeing four new wide-bodies and long-ranged 777-200 ER aircraft (hereafter: "the Agreement"). The Agreement was approved by the Company's Board of Directors on April 30 2008. The original delivery dates for the aircraft were set for January 2012, April 2012, November 2012 and January 2013. Total acquisition cost for the four aircraft, including spare parts and required installations to adapt them to Company needs, amounts to $576 million. In Accordance to the agreement, the payment of each aircraft prior tow years before the company get the aircraft. Pursuant to terms of this agreement, the Company was granted an option to convert the aforementioned acquisition into new 777-300 ER aircraft. Exercise of the option in question was to be decided by December 31 2009, subject to the fact that Boeing would not be obligated to supply the aircraft on the above delivery dates (this date has been extended by the parties). Furthermore, the agreement grants the Company another option to acquire two additional such aircraft, to be delivered to the Company in 2014 and 2015, in accordance with terms set forth in the agreement. C-40
Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
The Company has paid Boeing an advance payment for the purchase of the aircraft and payment for the additional option as stated above. Due to material changes occurring to the aviation industry since the signing of the agreement, following the global market crisis and the impact of these changes on the economic, business and financial environment in which the company is active, the Company has decided that the Agreement must be adapted to its needs. In this regard, the Company is in talks with Boeing to alter the Agreement and replace it with a flexible, long-range agreement, the various components of which including the models, amounts and delivery dates of the aircraft should match the Company's needs (which have yet to be established). 2.
On January 10, 2008, the Company signed an agreement to acquire a 747-400 passenger aircraft. The aircraft was manufactured in 1994, and was delivered to the Company in October 2008. In 2008 the Company paid the entire proceeds, to the amount of $50 million, for the purchase of the aircraft, investments for its adoption at the Company and costs of additions and installations needed to be carried out on the plane so as to adapt it to the Company's needs. Self financing amounted to $14 million, with the balance financed by loans, to the amount of $36 million, in accordance with a long-term credit agreement with a foreign bank. For further information regarding the terms of the loan received, see Note 22.d.3.
3.
On July 17 2008 the Company signed an agreement for the sale of two Boeing 767-200 airplanes, manufactured in 1983, owned by the Company. The delivery of one 767-200 to a Philippine airline was completed on October 15 2008, this after the entire proceeds for this aircraft, a total of $6.5 million U.S., had been paid to the Company prior to the signing of the agreement. The Company listed a pre-tax capital gain of $4.7 million for the sale of the aircraft in 2008. As regards the sale of the second 767-200, the intended purchaser, a Singapore investment company, informed the Company that it would be unable to meet payments for the aircraft due to difficulties in securing bank financing and therefore would be unable to purchase it, leaving the $325 thousand advance payment in the Company's possession.
4.
In August 2008 a new 737-800 aircraft was added to the Company's passenger fleet. The aircraft was leased for a 8 year period and features 142 seats. An additional aircraft of the same model was delivered late December 2008. The monthly rental fees for the first aircraft amount to $376 thousand. The monthly rental fees for the second aircraft amount to $314 thousand.
5.
On February 23 2009 a Boeing 757-200 possessed by the Company, manufactured in 1987, was sold and leased back to the El Al Group. The plane was purchased by a Panamanian aircraft leasing company. The Company received $9 million in return for the aircraft. According to the agreement, the Group shall lease the aircraft under market conditions for a 22 month period, with the option to extend the lease for an additional 12 months, as well as a monthly credit for engine maintenance calculation amounting to $1.8 million. The transaction had no material influence on the Group's Statement of Operations.
6.
In April 2009 two Being 767-200 engines were sold to Volvo Aero Services Corp (VAS) in return for $1.8 million. In January 2010 a consignment agreement was signed for the sale of the airplane parts to VAS. The Company is expected to receive a sum of $800 thousand for the agreement over the course of a three year period.
7.
On May 18 2009, a Boeing 757-200, manufactured in 1990, in the company's possession was sold and leased back by the El Al Group via operational lease. The aircraft was purchased by a Panamanian aircraft leasing company. The Company received $11.5 million in return for the aircraft. According to the agreement, the Group will lease the aircraft under market conditions for a 27 month period. As a result of the transaction, the Company recognized an additional $2.6 million expense in its financial statements as of the completion of the transaction in question. The above aircraft purchases are in accordance with the Company's business strategy to act to generally refresh its aircraft fleet, in accordance with the El Al 2010 strategic plan.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
f.
Devaluation of fixed assets: As stated in Note 2l above, if signs indicating deterioration are evident in an aircraft fleet, the Company conducts an estimate of the recoverable sum of than aircraft fleet. The recoverable sum is sales price of the aircraft or its value of use, whichever is higher. In estimating value of use, the Company estimates future cash flows and deducts them to their current value using a discount rate reflecting current market estimates. In this framework the Company relied on projections pertaining to, among other things, expected scopes of activity, prices of flight tickets and bills of lading, operating costs and future interest rates. Material differences in these estimates, or in part of them, may impact the value of the recoverable sum of these aircraft. Over the course of the reported period, the Company examined the recoverable value of aircraft fleets in which signs of deterioration were evident. As regards the recoverable sum of these aircraft fleets, in which signs of deterioration were detected, it was discovered that the recoverable sum for each aircraft fleet surpasses its depreciated cost as of that date, with the exception of the 757 and 747-200 fleets. Accordingly, a provision for the devaluation of aircraft and engines to the amount of $11.9 million was made in these Financial Statements.
g.
Ratio of Loan Balance to Guarantees Over the course of the reported period the Company was required to provide additional aircraft in its possession as additional bank guarantees due to loans taken to finance its aircraft fleet. As for the difference created in relation to the loan balance to guarantee ratio, see Note 22.g.1.
h.
Buildings and Installations: As of December 31
Buildings, hangars, warehouses, workshops and offices at BGA Leasehold improvements of rented offices Freehold offices Passenger and cargo terminals
i.
2009 Appreciated Depreciated Cost Depreciation Cost Thousands of Dollars
2008 Appreciated Depreciated Depreciation Cost Cost Thousands of Dollars
69,407 22,772 2,894 11,524 106,597
67,616 21,722 2,860 11,524 103,722
44,354 16,657 2,067 11,524 74,602
25,053 6,115 827 31,995
42,825 15,827 2,001 11,524 72,177
24,791 5,895 859 31,545
Real Estate Usage Rights and Building Rental Fees: For details regarding usage rights to real estate at Ben Gurion Airport and commitments for the rental of buildings in Israel and abroad see Note 29.d.3 below.
j.
Aircraft and Engine Maintenance Agreements In March 2009 the Company signed an agreement with Pratt & Whitney for the maintenance of PW 4000 engines installed in Boeing 767 and 747-400 aircraft in the Company's service. Some of these engines will be in the framework of an insurance agreement, according to which payment to the repairing party shall be calculated according to engine hour performance and the engines will be maintained by the repairing party. Payment for repair of the remaining engines shall be according to work receipts invested in the repairs. An agreement was signed with IAI in June 2009 regarding the maintenance of additional 10 PW 4000 engines of these aircraft models in the framework of an insurance agreement. The contract shall conclude in May 2014, with an option to extend it by an additional two years at prices identical to those in the contract.
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Free Translation of the Hebrew Language 2009 Annual Report - Hebrew Wording Binding
EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
k. Assets Pledged as Collateral For details regarding the Group's assets pledged as collateral for the Group's liabilities, see Note 40 below. l.
Unrestricted Assets The Group's total fixed assets as of December 31 2009 is $1,313 million. The Group's key assets are aircraft and spare engines, the depreciated cost of which as of December 31 2009 is $1,175 million. The depreciated cost of the Group's main assets that are not restricted by a third party amounts to a total of $34 million. In addition, as of the balance sheet date, the Group possesses parts and fixed assets to the amount of $138 million, free of any encumbrance.
m. Cargo Aircraft Activity In July 2009 the Company submitted a request to the Government Companies Authority for the consent of the holder of the Special State Share, as required by the Company's articles, to remove two 747-200 cargo aircraft from Company service. In February 2010 the State approached the Company with several questions prior to providing its response and the Company provided its answers on February 22 2010. As reported by the Company, it intends to continue transporting cargo in the cargo holds of passenger aircraft and using designated cargo planes, while studying various possibilities for further Company cargo activities. The Company has established a Board of Directors Committee to study the issue of cargo activity at the Company. The Company's representatives have appeared before the committee. In light of the Company's intention not to operate the aircraft in question past the end of 2009, the Company has accelerated depreciation expenses of cargo aircraft, parts and engines belonging to the cargo fleet. Following the aforementioned change in estimates, the Company recognized depreciation expenses to the amount of $4.3 million in 2009. On November 8 2009 the Company decided to utilize one of the cargo aircraft in its possession for an additional year while at the same time study alternatives for formulating a dry lease agreement of a 747400 cargo plane. On November 26 2009, the Board of Directors authorized Company Management to carry out a lease agreement for a 747-400 cargo plane within six months to one year. On February 17 2010, the Company signed a memorandum of understanding ("the Memorandum of Understanding") for the lease of a 747400 cargo plane, manufactured in 1994, with an Irish aircraft leasing company. According to the Memorandum, the Company shall lease the plane for a 24 month period, with an option to extend the leasing period for an additional until 36 months. As part of the memorandum of understanding the Company has been granted a right of first refusal and options to purchase the aircraft, in accordance with the understandings between the parties. Completion of the transaction is contingent on the signing or a detailed agreement as well as the receipt of approvals from third parties, including regulatory approvals. In November 2009 the conclusions of the public committee established by the Minister of Transportation and Road Safety to study the Israeli cargo transport industry and to study the state of Israeli airlines dealing in cargo shipping were published, the key points being as follows: 1)
2) 3)
4)
Prior to providing the response of the El Al Special State Share holder to the Company's query regarding the grounding of the Company's cargo aircraft, the State shall study the cost of the minimal short term response (by the end of 2010) for transporting cargo in times of emergency. Information on cost will allow a well-established response to be made to the State's response to the El Al query. The cost study should be completed within a brief amount of time. The State shall study the request made by the CAL company regarding assistance with collateral. If it is decided to assist CAL, this assistance shall be contingent on the Company's commitment to operate recruit able aircraft in times of emergency. The Committee saw fit to note that it saw nothing wrong in the existence of cooperation between El Al and CAL, insomuch as this leads to the existence of a fleet for transporting cargo in times of emergency without causing a material impact to competitiveness. In the event that the companies approach the Restriction of Trade Commissioner with a request for collaboration in the area of cargo shipping, the Committee recommends that approval shall be made conditional, inter alia, on the assurance of proper availability of emergency cargo aircraft. Subject to this, the Committee recommends that insomuch as Government ministry opinion is required on the subject, the subject shall be considered. The paragraph in the CAL operating license precluding it from entering into collaboration agreements shall be cancelled. C-43
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5) 6)
Note 17 -
Towards the beginning of 2011, the possibility of establishing an interministerial committee headed by the Ministry of Defense and with the Ministry of Transportation, the CAA and the Ministry of Finance, to study specific issues pertaining to cargo shipping, shall be considered. The recommendations shall be presented to the Government by the Minister of Transportation and Road Safety.
Intangible Assets a.
The following is the composition and movement of this item: Usage Rights to Security Equipment Software Total Thousands of Dollars
b.
Cost Balance as of January 1 2009 Acquisitions Devaluations Balance as of December 31 2009
5,703 405 (1,837) 4,271
4,656 1,550 6,206
10,359 1,955 (1,837) 10,477
Accrued Depreciation Balance as of January 1 2009 Amortization Balance as of December 31 2009
1,433 566 1,999
308 666 974
1,741 1,232 2,973
Depreciated Cost Balance as of December 31 2009
2,272
5,232
7,504
Cost Balance as of January 1 2008 Acquisitions Balance as of December 31 2008
4,612 1,091 5,703
669 3,987 4,656
5,281 5,078 10,359
Accrued Depreciation Balance as of January 1 2008 Amortization Balance as of December 31 2008
893 540 1,433
308 308
893 848 1,741
Depreciated Cost As of December 31 2008
4,270
4,348
8,618
Rights of Use of Security Equipment The Company pays a relative portion of the security costs of the Government of Israel pertaining to safeguarding the Company's passengers and aircraft from acts of war and terror, as set from time to time in Government resolutions. Accordingly, the Company recorded the payments made for its share in financing the protective systems and security inspection equipment in other assets. The Company has an arrangement with the Ministry of Defense, according to which this equipment will be used by the Company exclusively over its anticipated useful economic life. In 2009 the Company listed $1,837 in devaluation due to investment in security equipment that did not bear fruit, charged to other expenses in the Statement of Operations, see Note 32e.
c.
Traffic Rights and Participation in Security Expenses (1) The Company's Appointment as Designated Carrier to Eilat: On August 24 2009, the Company's request to be appointed designated carrier on the BGN-Eilat line, alongside Arkia Israeli Airlines Ltd. (hereafter: "Arkia") and Israir Aviation and Tourism Ltd. (hereinafter: Israir"), was approved. The Minister of Transportation noted that the date on which flights C-44
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
will begin, frequencies and load factors the Group will be able to operate will be determined following thorough staff work carried out by the Civil Aviation Authority. In September 2009 Israir and Arkia petitioned to the High Court of Justice against the Minister of Transportation, the CAA, the Restriction of Trade Commissioner and the Company, for an injunction against the Minister of Transportation's decision allowing the Company to operate scheduled flights from BGN to Eilat. In October 2009 the CAA recommended to the Minister of Transportation that he approve up to 2 daily frequencies on the BGN-Eilat route, this contrary to the Company's request to approve more extensive activity on this route. In January 2010 the High Court of Justice rejected the petitions of Arkia and Israir, on the grounds that the petition had been filed at too early a stage. At the same time, the Court permitted the two companies to file a repeat petition after the terms of the route's operation (frequencies and capacity) are determined and within 30 days from the publication of the final decision of the Minister of Transportation and Road Safety and prior to the Company's initiation of activity on the route. On the matter of the Minister of Transportation's decision to allow the Company to conduct regular flights between BGN and Eilat, as well as the court petitions filed on this issue by the Company and by Arkia and Israir, see Note 41b. (2) Participation in security costs: Pursuant to the resolutions dated January 27 2008 and August 24 2008 regarding the participation of the State of Israel in the Company's security costs, on February 1 2009 the Israeli Government passed an updated resolution regarding participation in the security expenses of Israeli airlines (following the resolutions dated January 27 2008 and August 24 2008), as follows: " a. To increase the participation rate in security expenses in Israeli airlines to 60% from 2009 onward. Implementation of the resolution shall take place immediately after the Knesset passes its 2009 budget. b. To instruct the Ministers of Finance and of Transportation and Road Safety to increase the State's participation in Israeli airline security costs to 75%, immediately after the signing of a global aviation agreement with the European Union ("Open Skies") in accordance with Government Resolution 441 dated September 12 2006. c. To instruct the Minister of Transport and Road Safety to report to the Government, six months subsequent to this resolution, on the progress of negotiations with the European Union regarding the global aviation agreement ("Open Skies"). d. Prior to the approval of the 2009 budget, the Budget Controller at the Ministry of Finance will act to submit a budget addition deriving from this resolution for the Government's approval, for the funding for an increase in the State's participation in civil aviation security costs. e. The airlines will act to conduct "exchange purchases" in Israel, as much as is possible at rates agreed upon with the Industrial Cooperation Authority." On May 13 2009 the Company filed a revised petition, in which the Company requested that the original government decision regarding 2008 be implemented, or alternately, up until the August 2008 cancellation resolution. After the 2009 State Budget passed in July 2009 and until the balance sheet, the Company received an accumulated sum of $10 million from the State of Israel for participation in security expenses for 2009. This sum reflects the Government Resolution passed February 1 2009, according to which starting at the beginning of 2009 the Israeli airlines' participation in security costs shall be reduced from 50% to 40%. The added Government participation in these security expenses has been recognized in the 2009 Statement being offset by the security expenses borne by the Company in this period.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 18 -
Short Term Borrowing and Current Maturities a.
Composition: As of December 31 2008 2009 Thousands of Dollars Current maturity of long-term loans from financial institutions Current maturities of other loans (see Note 26a) Bank overdrafts
Yearly interest (in %) b. Note 19 -
77,813 28,203 106,016
69,897 254 16,120 86,271
0.3-4.9
2.8-5.2
Liens and collateral – see Note 40.
Trade Account Payables a.
Composition: As of December 31 2008 2009 Thousands of Dollars Open Accounts Airlines
b. Note 20 -
120,601 8,369 128,970
122,733 8,160 130,893
The average credit period granted as a result of goods purchasing is 48 days (2008: 46 days), for which the Group does not pay interest.
Other Payables Other Payables – Current Liabilities Composition: As of December 31 2008 2009 Thousands of Dollars Airport fees and taxes payable Interest payable on long term loans Current maturities of a consensual retirement plan (see note 23.d.1) Deposits received from groups. Payables due to cargo claims (see Note 27.d.b.1). Other payables
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24,324 2,646 1,007 6,804 3,072 16,591 54,444
19,787 6,858 3,249 2,262 12,585 44,741
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Other Payables – Non-Current Liabilities Composition: As of December 31 2008 2009 Thousands of Dollars Payables due to cargo claims (see Note 27.d.b.1). Lease incentives (see Note 29.d.3 as well as 26.b.3)
Note 21 -
9,090 4,228 13,318
3,297 3,297
Linkage Conditions – Liabilities Current liabilities- division by linkage conditions: As of December 31 2008 2009 Thousands of Dollars Monetary liabilities: In USD or linked In Israeli currency (NIS) In Euros or linked Other foreign currency or linked
Non-monetary Liabilities
284,850 155,895 27,560 15,364 483,669
316,937 156,705 27,440 13,874 514,956
204,444
197,911
688,113
712,867
Non-current liabilities- division by linkage conditions: As of December 31 2008 2009 Thousands of Dollars Monetary liabilities: In USD or linked In Israeli currency (NIS) In Euros or linked Other foreign currency or linked
Non-monetary Liabilities
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745,441 52,035 893 5,113 803,482
788,143 62,866 856 4,832 856,697
56,126
54,306
859,608
911,003
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 22 -
Long-Term Loans from Financial Institutions a.
Composition As of December 31 2008 2009 Thousands of Dollars Dollar Bank loans at variable interest Dollar Bank loans at fixed interest Less: current maturities
686,707 108,541 (77,813) 717,435
756,604 (69,897) 686,707
Less – balance of loan arrangement costs
(13,241) 704,194
(8,050) 678,657
Yearly interest (in %)
0.3-4.9
2.8-5.2
b. Loan arrangement costs: Cost
As of January 1, 2009 Yearly additions Yearly deductions As of December 31, 2009 c.
18,173 7,159 25,332
Depreciation Created Depreciated Cost Thousands of Dollars (10,123) (1,968) (12,091)
8,050 7,159 (1,968) 13,241
Repayment schedule as of December 31 2009: Thousands of Dollars First year Second year Third year Fourth year Fifth year and thereafter
77,813 145,324 138,249 174,570 259,292 795,248 (77,813) 717,435
Less: current maturities
d. Additional information: 1.
For financing the purchase of aircraft (including by way of subleasing as per Note 16.d.1 above) and alternate engines, between 1999 and 2005 the Company received loans from banking institutions totaling $838 million at variable interest of LIBOR plus a margin, to be repaid between 1999 and 2017.
2.
For financing most of the cost of two 777-200 aircraft (ECF and ECE) through a sub-lease, as in Note 16.d.2 above, a loan was received in July-August 2007 from a consortium of foreign banks totaling $219 million, for a 12-year period, to be repaid quarterly, and including a balloon payment of principal at the end of the period. The loan bears variable Libor interest plus a margin. The Company incurred costs to arrange the loans, primarily a one-time commission paid to the Exim Bank, which provided collateral for repayment of the loan.
3.
For financing most of the cost of the 747-400 aircraft (marked ELE) from Singapore Airlines, in November 2008 the Company received a $36 million loan from a foreign bank for an 8 year period, with semiannual principal and interest payments. The loan is at variable LIBOR interest plus a margin.
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4.
To finance the three 737-800 aircraft (marked EKH, EKJ and EKL) from a foreign bank, through a sublease as stated in Note 16.d.3, the Company received three loans to the amount of $37.5-$38 million per loan, The loans were received in April, May and June 2009, for a 12 year period, bearing fixed interest of 3.62%, 3.62% and 4.01% respectively. The loans shall be repaid in 48 quarterly payments, principal and interest, on fixed dates each year.
e.
As for hedging transactions to fix variable interest rates – see Note 31.f.
f.
Early repayment: All existing loans as of December 31, 2009 may be repaid early by the Company. Moreover, in accordance with the terms stipulated in certain agreements, if, in the opinion of the bank, based on reasonable criteria, an event has occurred which adversely affects the Company’s financial position or its business or its financial ratios in a manner endangering or potentially endangering the ability to repay any bank loans, then the bank may demand immediate repayment of the outstanding loans owed to it.
g.
Restrictions and financial covenants of long-term loans: 1.
Ratio between loan balances and collateralAll of the loan agreements described in items d.1 - d.4 above stipulate that the market value of the pledged aircraft should exceed the bank-loan balance by 25% and that such an examination should be conducted once a year (in some agreements – twice a year) based on certain, stipulated, international professional publications. The Company has also undertaken that should the actual ratio be lower than the above ratio, it will provide additional collateral, or repay its bank loans earlier, in order to fulfill the ratio requirement. The Company has provided aircraft in its possession as additional collateral for loans taken by the Company to finance its aircraft fleet. For further details, see Note 40. In October 2009 an updated price list was published, According to this price list a difference had been created in the ratio of loan balances to collateral as required by the loan agreements with the banks. As of December 31 2009, the Company reached an arrangement with the banks regarding the collateral gap created.
2.
Arrangement with banks prior to privatization – a.
In April - May 2003, the Company received letters from Bank Hapoalim Ltd. (“the Bank”), claiming that, based on the loan agreements the Bank is entitled to demand immediate repayment of all outstanding loans in the event of a change in the Company’s status as a “government corporation” under the Government Corporations Law. Prior to the privatization, the Bank removed its objection to carrying out the offering of shares to the public, and the State concurrently undertook that, starting from the date of the share offering and tender offer and through December 2004, the State and employee holdings in the Company would not, at any time, decline below 50.00001% of the Company’s outstanding share capital (fully diluted). Within the framework of the abovementioned agreement, the Bank agreed to rescind its demand for early repayment. On September 28, 2004, the Bank gave the Company its consent that the transfer of control to K’nafaim in any manner would not be considered by the Bank as a breach event in the context of the agreements and would not give the Bank the right to demand immediate repayment of any outstanding loans, in whole or in part.
b. In May 2003 Bank Leumi Le'Israel Ltd. (BLL) informed the Company that, should control in the Company be changed or transferred in any way, without its prior written consent, BLL would be entitled to demand immediate repayment of all outstanding loans. Before the privatization, BLL removed its objection to offering shares to the public. In 2004, management requested that BLL agree that the transfer of control to K’nafaim would not give the BLL the right to demand immediate repayment. In this regard, BLL informed the Company that it had no objection to the change of control in the Company whereby K’nafaim C-49
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would increase its holdings in the Company in a manner that would cause it to be the controlling party in the Company. BLL’s consent is contingent upon the fulfillment of the following conditions: 1. The controlling parties in K’nafaim would be the Borovitz family. The term “control” for this purpose is as defined in the Banking Law (Authorization), 1981. 2.
The change in ownership referred to above would take place no later than June 5, 2007.
Subject to the above, it was agreed that BLL would not exercise its right to demand immediate repayment of outstanding debts and liabilities of the Company solely as the result of the abovementioned change in control. Moreover, within this framework, K’nafaim informed BLL that, in light of the Company’s present outstanding debt to BLL, and due to the fact that the Company’s Board of Directors will, from time to time, formulate a profit-distribution policy for the Company, then as long as the open principal balance of the outstanding debt of the Company to BLL is not less than $50 million, K’nafaim will not support a resolution for profit-distribution at a rate exceeding 60% of distributable retained earnings of the Company from time to time, unless it will consult with BLL regarding any amount in excess of 60%. In 2007, the Company approached BLL to consult on the distribution of a dividend exceeding this rate - see Note 30.g. h. Liens – see Note 40.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 23 -
Obligations Deriving from Employee Benefits a.
Composition: 2009
Post-employment benefits within the framework of a defined benefits plan: Retirement benefits Liability due to retirement and severance pay Pension funds Redeemed sick pay
Short term employee benefits: Wages, salaries and social Vacations Others Presentation in balance sheet: Assets due to employee benefits: Non-current, net Employee benefits obligation: Current Non-current, net
b.
2007
2,720 (30,147) 6,539 35,468 14,580
2,972 (32,524) 6,054 33,598 10,100
3,184 (30,475) 9,651 31,463 13,823
1,078 1,078
934 934
1,329 1,329
14,350 (1,007) 13,343
29,387 (3,249) 26,138
40,029 (1,821) 38,208
32,799 48,581 2,332 83,712
41,925 46,005 2,277 90,207
50,611 44,183 1,391 96,185
34,501 34,501
36,777 36,777
34,527 34,527
81,379 65,835 147,214
87,930 76,226 164,156
94,794 89,278 184,072
Other long term employee benefits Benefits due to anniversary grant Termination benefits At-will retirement plans Less current maturities
As of December 31 2008 Thousands of Dollars
Post-employment benefits: (1)
Defined deposit plans Retirement and Severance Compensation Plans Israeli labor and severance compensation laws require that the Company and subsidiaries pay compensation to employees upon retirement or dismissal. The calculation of liability as a result of the termination of employee-employer relationships is carried out in accordance with the valid employment agreement and is based on the employee's salary which, in management's opinion, creates the right for compensation. The Company and its subsidiaries have approval from the Ministry of Labor and Welfare in accordance with Section 14 of the Severance Pay Law 1963, according to which its current deposits in pension funds and insurance policies exempt it from any additional obligations towards its employees, for whom the aforementioned sums were deposits. The Group shall have no legal or implied obligation to make additional payments if the plan has insufficient assets to pay for all employee benefits pertaining to the employee's service in the current and in previous periods. The total sum of expenses charged to the statement of operations for defined deposit plans in the year ended December 31 2009 is $11,858 thousand (2008: $9,793 thousand, 2007: $12,328 thousand)
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(2)
Defined Benefit plans 1.
General Severance and Retirement Compensation Obligations Israeli labor laws and the Severance Pay Law require that the Company and its subsidiaries pay compensation for employees upon dismissal or retirement (including employees departing from the workplace under other specific circumstances). The calculation of the liability for the discontinuation of the employer-employee relationship is carried our in accordance with the valid employment agreement and is based upon the employee's last salary payment, which, in management's opinion, creates the right to receive compensation, taking his years of employment into consideration. The obligation in question was calculated using actuary tables. Actuary estimates were also conducted by Ogen Ltd., a member of the Israeli Actuary Association. The current value of the defined benefit obligation and the costs pertaining to current and past services, were measured using the projected entitlement unit method.
2.
Pension Agreement The social benefits of some of the Company employees have been formalized in a pension agreement signed on September 1, 1992 between the Company, the Histadrut, representatives of employees and the Mivtachim pension fund, based on the industrial pension agreement that was adapted for the particular structure of the population of Company employees. Membership in the comprehensive pension plan was previously voluntary for veteran employees and mandatory for new employees to whom the collective labor agreement applied and who were able to accumulate the qualification period for entitlement to a pension. (Veteran employees with an age exceeding 55 for men and 50 for women could, under certain conditions, join a comprehensive pension plan and receive a pension even without having completed 10 years of membership.) An employee joining the comprehensive pension must insure part of his salary by pension (ground worker - 50%, flight-crew personnel - 25%) and the balance can be covered by managers' insurance or the provident fund for Company employees. The agreement provided that the Company's payments to the pension fund and an approved fund (managers' insurance or provident fund) for an employee joining the pension plan, will, for all intents and purposes, come in lieu of its severance-pay obligation for that employee, pursuant to Section 14 of the Severance Pay Law for that part of the salary and for that period as to which the payments were made. The employees joining the pension plan are entitled to severance pay and provident fund pay upon retirement from work, for the period beginning with commencement of employment through the date of joining the pension fund and, subsequently, to the rights accrued to their credit in the pension fund. Starting January 1, 1995, new employees are insured for pensions with the Mivtachim comprehensive pension plan, according to the pension rules to new members.
(3)
Severance pay a.
Overview: Employees who received tenure by September 1992 are entitled to severance pay for their employment until then, computed on the basis of one month for each year of employment. With regard to the employment period thereafter, the abovementioned employees are entitled to severance pay if they have not joined a pension plan, or a combined plan of pension, managers' insurance and savings in a provident fund (at their personal election) according to the rules prescribed in the collective labor agreement. Employees who subsequently received permanent status in the Company were then obligated to join the pension plan by selecting the appropriate pension combination, but are not entitled to severance pay.
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Prior to the privatization date, the Company had concluded arrangements with the employees for assuring severance pay and with the State of Israel to assure financing sources. See item b. below. b.
Arrangements with the employees for assuring severance pay and with the State of Israel to assure financing sources: On June 3, 2003 the Company reached an agreement with the employees' representatives for covering the deficit of NIS 516,240 thousand (“the Deficit”) in the obligation for termination of employee-employer relationships, with this amount linked to the CPI and bearing annual interest of 5.05% starting June 1, 2003, net of the amounts transferred to a recognized pension fund, from time to time. The Company and the State agreed to cover the Deficit by assuring the raising of capital, as outlined below: a.
Any immediate as well as future proceeds from the initial offering and any proceeds from future offerings of shares or other securities received by June 5, 2007 ("immediate and future proceeds") up to the amount of the Deficit will be transferred to the severance-pay fund as soon as it is received, with the Deficit reduced accordingly;
b.
Should the Company’s immediate and future proceeds be insufficient to cover the balance of the Deficit at that given point in time, the State would then transfer the amount required to fully cover that Deficit.
As soon as this agreement took effect, and subject to its execution, the employees’ representatives waived, on behalf of each and every Company employee, any claim against the State with respect to the Deficit or financing it. Moreover, the Company and the employees’ representatives undertook to refrain from making any claim, allegation or demand against the State concerning this matter. This understanding went into effect upon the registration of the Company’s shares for trade on the Tel Aviv Stock Exchange. On June 2, 2003 the Knesset Finance Committee resolved to approve a commitment with respect to this arrangement for purposes of providing a safety net for the employees’ severance-pay fund. On June 3, 2003 the Company’s Board of Directors ratified the above agreement. Between 2003 and 2007 the State's deposits in the employee compensation funds deriving from the proceeds of the exercise of buy options and options convertible to shares amounted to $101,547 thousand and Company deposits amounted to $30,828 thousand, and in total these orders amounted to $132,375 thousand. After the Company and the State made the above deposits in 2007, the Deficit, as defined in the agreement between the Company, the State and the employees' representatives signed on the eve of the privatization, was covered in full. Any proceeds received by the Company from the exercise of options (Series 1) were deposited in the severance-pay fund of eligible employees, except for NIS 30 million (including interest accrued as of the report date) not yet deposited, which is included in the short-term deposits item as of December 31, 2009. In 2007, the Company contacted the Controller-General in the Ministry of Finance on the matter. As of this report, the Controller-General has yet to issue his response in the matter of the Company's right to make use of the above proceeds. In the December 31 2009 Financial Statements, this deposit is presented against an obligation to the State of Israel, until the Company's rights as regards these funds is resolved. (4)
Redemption of Sick Leave Pursuant to the collective labor agreement, employees are eligible for full payment of up to 30 days' illness per annum (other than new employees who have limited accumulation), which may be accrued throughout all years of employment. Upon retirement from the Company, in mandatory retirement or retiring after attaining the age of 45, permanent employees (other than executives, beginning from their transition to personal employment contracts) are entitled, if they retired under terms entitling them to severance pay, to receive a grant for unutilized sick days, at a rate of up to 26.6% of the value of the unused days. The liability for this C-53
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grant was determined on the basis of the rights accrued for those eligible employees who reached the age of 45 as of the date of the financial statements . (5)
Temporary Employees Pursuant to the labor agreement signed by the Company and the temporary employees, these employees have joined the comprehensive pension plan, and the Company deposits monthly amounts for them on a current basis. These deposits cover the Company’s obligations for the termination of employee-employer relationships for its temporary employees. As regards the special collective labor agreement signed between the Company's employees, the workers' representatives and the Histadrut – see Note 23.b.(2).12 below.
(6)
Flight-Crew Personnel Air-crew personnel are entitled, according to an agreement, to receive the higher of severance pay for their period of employment through December 1979, computed on the basis of their last salary, or their salary for the month of December 1979 (net of the part of the salary for which severance pay had been paid in the past - 20%), linked to the Israeli CPI, whichever is higher. As for the period subsequent to December 1979, the Company's liability for severance pay is computed on the basis of their last salary. As to the lawsuit filed against the Company as a result of the change in retirement ages – see Note 27.d.(c).3 below.
(7)
Company Executives Company executives are employed under personal employment agreements. These employees are entitled to receive additional severance pay for the period of their employment of 100%, in excess of the balances accumulated in the pension funds and/or insurance companies.
(8)
Employees Posted Abroad Among the Company employees abroad are permanent workers who are Israeli residents, relocated to fill managerial positions abroad, usually for periods ranging from four to six years ("posted employee"). Salaries of the posted employees while serving abroad ("compensation abroad") are different from Israeli wages, and take into account the local standard of living and taxation, and the fact that the salary is subject to income tax and social deductions both abroad and in Israel. In addition to the salaries of the posted employees, the Company bears the cost of their housing and tuition fees for their children. Salaries plus rent and tuition are paid by the Company under the Israeli income tax regulations. As for the income tax authorities' claim regarding deductions–see Note 27.e below. Benefits after the termination of employee-employer relationships for those employees are determined on the basis of wages paid to employees at their level that they are employed in Israel.
(9)
Local Employees in Company Branches Abroad Most Company employees abroad, other than the Israeli posted employees, are engaged under collective labor agreements between the Company and the union in that country, or under employment agreements with the employees’ representatives, with a few under agreements between the employers' organization (foreign airlines) and the umbrella organization of airline employees, or under other agreements. The employment terms of Company personnel in certain countries are not covered by a collective agreement but rather stipulated by the Company, in accordance with the acceptable practice in the airline industry or the national airlines in those countries. In some branches, the employees are engaged under personal contracts or through a contractor. Some of the branches are committed to pay severance pay according to law or agreement while other are obliged to adhere to national or other pension insurance. The Company transfers regular payments for the pension insurance. Some of the local employees of the Company who are residents of the U.S. and the U.K benefit from pension plans ("the plans"), with the pension cost of the branch employees being paid for by the C-54
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Company. The cost of the pension is computed as a multiple of the "years of eligibility" for the pension multiplied by the rate of salary determined as entitled to pension. Retirement commencing at the age of 65 ordinarily entitles the employee to full benefits. The pension-plan assets, which are invested mainly in marketable securities, are not owned by the Company. The Company is obliged to cover any deficit that would be created in the value of the funds’ assets relative to any actuarial obligation, should such deficit be created. (10)
Security Personnel Payments to discharge obligations for termination of employee-employer relationships related to personnel employed by the Company or by a governmental entity to protect the Company's services are made out of the State budget for aviation security. There is no employee-employer relationship with the Company for most of these employees and, accordingly, no provision was included in these financial statements to cover such payments.
(11)
Employees of Subsidiaries Employment terms of the Company's main subsidiaries in Israel are regulated by labor agreements, pursuant to which the obligation for termination of employee-employer relationships is computed on the basis of their last salary and of pension arrangements, as applicable. The employment terms of the main foreign subsidiaries are regulated by collective labor agreements in those countries and in accordance with local laws and practices.
(12)
Collective Agreement On November 2 2008 a collective agreement was signed by the Company, the employees' representatives and the Histadrut ("the Agreement") following the Board of Director's approval of the Agreement on October 27 2008. The primary points of this agreement are as follows: −
The Agreement shall be in effect until December 31 2012.
−
Industrial peace and discipline - a commitment exists to uphold industrial peace for the duration of the agreement, while focusing on competition and growth challenges. The Company, the Histadrut and the employees' representatives shall conduct joint activities to promote and maintain order and discipline in the Company. The Company's authority as regards the termination of employees guilty of severe disciplinary violations shall be expanded.
−
Bonuses and pay raises – when the Company becomes profitable, a general pay raise shall be granted equal to 3% of their pension salaries. In the event of profits greater than $10 million, employee shall receive a one-time bonus equal to between 18% and 24% of their base salaries. In addition, in the following year, if the Company earns over $10 million, an addition raise equal to 1% of pension salaries shall be granted. If the Company earns over $35 million, an additional 0.5% shall be added to salaries. In the following year, if the Company earns over $10 million, an additional 1% shall be added to pension salaries. If the Company earns over $35 million an additional 0.5% shall be added.
−
Horizon promotion bonus – when the Company becomes profitable, an annual budget for the financing of a horizon promotion bonus for non-promoted ground personnel as well as for flight crews and flight attendants with similar status. Non-promoted employees are workers who have spend many years at the top step of the existing standard pay scale and are not designated for promotion.
−
Work cessation – initiated retirement and/or work cessation of 30 employees via a process including work cessation pathways using an increased compensation format, early pension or a choice between the above (in accordance with the retiring worker's age).
−
Shifts and rest periods – shifts in Israel station and maintenance shall be adjusted and reinforced according to activity loads. Rest periods for pilots and regular and temporary flight attendants in North America shall be shortened.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
−
Special tracks and promotion – temporary employees with more than 3 years seniority may participate in bids for entry-level managerial positions. The Company shall be permitted to employ up to 40 employees via personal contracts. Employees in the flight technical field shall receive tenure after their fourth year instead of their second.
On July 29 2009, the Company's offices received notice from the New Histadrut [workers' union] – the Professional Union Department ("the Histadrut"), on the basis of the Work Dispute Resolution Law, 1957, according to which the Histadrut has the right to declare a strike. On August 4 2009 the representatives of the Company, the Histadrut and the Company's workers announced that they would be freezing the work dispute, as declared by the Histadrut, this concurrent with the Company's agreement to freeze various moves related to work relationships it took recently. In addition, it was agreed that intensive negotiations would be held between Company Management, the workers' representatives and the Histadrut administration to create a shared streamlining plan benefiting both the Company and its employees. (13)
Chief Actuary Assumptions as of the Balance Sheet Date
Discount rate Projected yields on the plan's assets Projected salary increase rates Replacement and departure rates: Until 39 years of age Between the ages of 40 and 49 Between the ages of 50 and 54 Between the ages of 54 and 59 Between 60 and retirement
2009 %
As of December 31 2008 %
2007 %
5.1 5.1 3.7
5.3 5.3 3.7
6.4 6.4 3.7
5.0 3.0 2.0 1.0 0.5
5.0 3.0 2.0 1.0 0.5
5.0 3.0 2.0 1.0 0.5
Assumptions regarding future death rates (including reductions in future death rates) are based on statistical data published by Ministry of Finance Circular 30-6 2007 from May 2007. The Group makes use of a discount rate appropriate to the market's yields from government bonds. In the event that use is made of the discount rate of corporate bonds, this is expected to have a material impact on the Group's Financial Statements. A decrease shall occur in the sum of the defined benefit plan to the amount of $12,398 thousand (2008: $13,225 thousand) as well as a $1,002 thousand increase in employee benefit plans (2007: $1,004 thousand).
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(14)
Sums Recognized in the Statement of Operations for Defined Benefit Plans For the Year Ending December 31 2008 Thousands of Dollars
2009
Cost of current service Interest cost Projected yield on the plan's assets Real yield transferred from compensation to remuneration Adjustments due to ceiling for recognition of asset due to defined benefit plan Exchange rate differences Deviation from strip
The expense was included in the following items: Operating expenses Selling expenses General and administrative expenses
(15)
7,572 11,382 (9,055)
6,772 12,120 (11,526)
667
496
(256) 2,063 12,373
774 (1,881) 6,031
1,715 12,328
8,940 1,600 1,833 12,373
4,316 799 916 6,031
9,009 1,413 1,906 12,328
1,022 2,225
Movement in the Current Value of Obligation due to Defined Benefit Plan
2009
Opening balance Current service cost Interest cost Actuary gains (losses) Benefits paid Exchange rate changes Closing balance (16)
7,022 12,435 (12,815)
2007
212,398 7,572 11,382 1,363 (12,582) 2,783 222,916
For the Year Ending December 31 2008 Thousands of Dollars 202,656 7,022 12,435 6,878 (13,028) (3,565) 212,398
2007
221,873 6,772 12,120 (14,771) (25,191) 1,853 202,656
Movement in the Fair Value of the Plan's Assets
2009
Opening balance Projected yield on the plan's assets Actuary profits (losses) Deposits by employer Benefits paid Real yield transferred from compensation to remuneration Changes in exchange rates Closing balance
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For the Year Ending December 31 2008 Thousands of Dollars
2007
159,723 9,055 34,739 10,143 (13,663)
204,503 12,815 (51,139) 9,338 (13,614)
153,346 11,526 1,182 59,224 (19,891)
(667) 3,040 202,370
(496) (1,684) 159,723
(1,022) 138 204,503
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(17)
Adjusting the current value of the commitment for the defined benefit plan and the fair value of the plan's assets to assets and liabilities recognized in the balance sheet: As of December 31 2008 2007 2009 Thousands of Dollars Current value of financed liability Less - fair value of the plan's assets Current value of unfinanced liability
180,696 (202,370) (21,674) 42,220
174,232 (159,723) 14,509 38,166
166,039 (204,503) (38,464) 36,617
(5,966)
(42,575)
15,670
14,580
10,100
13,823
Net unrecognized actuary gains (losses) Net asset/liability deriving from defined benefit commitments (18)
Composition of the Plan's assets: Fair Value of the Plan's Assets as of December 31 2008 2007 2009 Thousands of Dollars Shares Government bonds Corporate bonds Cash, cash equivalents and deposits Other investments
30,356 68,806 48,569 15,139 39,500 202,370
27,894 54,829 48,353 17,961 10,686 159,723
54,862 49,354 61,934 19,412 18,941 204,503
The total projected yield rate is the weighted average of the projected yields of all types of assets constituting the plan's assets as detailed above. The projected yield rate for the plan's assets in the reported year is 5.13% (in 2008: 5.3% and in 2007: 6.4%). (19)
Actual Yield from the Plan's Assets and Compensation Rights
2009
Projected yield on the plan's assets Actuary gains (losses) Actual yield on the plan's assets
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9,055 34,739 43,794
For the Year Ending December 31 2008 Thousands of Dollars 12,815 (51,139) (38,324)
2007
11,526 1,182 12,708
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(20)
Actuary Gains/Losses Not Yet Recognized For the Year Ending December 31 2008 Thousands of Dollars
2009
Actuary gains (losses) not recognized as of January 1 Actuary gains (losses) created in the current period for liabilities due to plan assets Deviation from strip Changes in exchange rates Actuary gains (losses) not recognized as of December 31 c.
2007
(42,575)
15,670
(283)
33,376 2,063 1,170
(58,017) (228)
15,953 -
(5,966)
(42,575)
15,670
Other Long-Term Employee Benefits: (1)
Chief Actuary Assumptions as of the Balance Sheet Date
Discount rate Projected salary increase rates Replacement and departure rates: Until 39 years of age Between the ages of 40 and 49 Between the ages of 50 and 54 Between the ages of 55 and 59 Between the ages of 60 and retirement (2)
2009 %
As of December 31 2008 %
2007 %
5.1 3.7
5.3 3.7
6.4 3.7
5.0 3.0 2.0 1.0 0.5
5.0 3.0 2.0 1.0 0.5
5.0 3.0 2.0 1.0 0.5
Sums Recognized in the Statement of Operations for Long Term Employee Benefits
2009
Cost of current service Interest cost Actuary gains (losses) recognized in Statement of Operations Exchange rate differentials
The expense was included in the following items: Operating expenses Selling expenses General and administrative expenses
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For the Year Ending December 31 2008 Thousands of Dollars
2007
199 174
74 81
73 75
621 (372) 622
(430) 15 (260)
(68) 190 270
500
(231)
240
35 87 622
(9) (20) (260)
10 20 270
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(3)
Movement in the Current Value of Obligation due to Other Long Term Employee Benefits For the Year Ending December 31 2008 2007 2009 Thousands of Dollars Opening balance Cost of current service Interest cost Actuary gains (losses) recognized in Statement of Operations Benefits paid Exchange rate changes Closing balance
d.
934 199 174
1,329 74 81
1,238 73 75
621 (478) (372) 1,078
(430) (135) 15 934
(68) (179) 190 1,329
Severance Benefits (1)
General Between 2000 and 2009, the Company's management adopted resolutions relating to early retirement programs for 692 employees, for which provisions were recorded in the Company's accounts. As of December 31, 2009, all the employees had concluded their actual retirement from the Company within the framework of the abovementioned programs. The aforementioned retirement plans include 6 employees, for whom decisions were reached by Company management during 2009, and for which a provision of $0.8 million was recorded in the December 31 2009 Financial Statements (see Note 32.e.2). The December 31 2009 Financial Statements include the balance of an accrual in a total amount of $41,191 thousand for financing the retirement of approximately 401 employees, (after a group of employees included in the original retirement programs reached retirement age through December 31, 2009 with a provision no longer recorded for them in the financial statements). Within that framework the Company deposited funds for assuring early retirement pension payments to employees, the balance of which as of December 31, 2009 amounted to $26,841 thousand. The total net provision for retirement plans as of December 31, 2009 is $14,350 thousand. As part of the Company's privatization, the State of Israel provided guarantees, to uphold the Company's commitments, in favor of Mivtachim and Klal with respect to the retirement programs, which amounted as of December 31, 2009 to approximately $17.2 million. As the Company formulates and decides upon consensual retirement programs in the future, subject to the cooperation of the employees’ representatives, the Company will not be entitled to receive additional guarantees from the State of Israel. Additional retirement programs will be executed with Company guarantees.
(2)
Composition of the Balance Sheet Balance 2009
Commitment for severance benefit Assets of plan for financing commitment
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41,191 (26,841) 14,350
As of December 31 2008 Thousands of Dollars 54,586 (25,199) 29,387
2007
60,406 (20,377) 40,029
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(3)
Presentation in Statement of Operations For the Year Ended December 31 2008 Thousands of Dollars
2009
Other expenses e.
1,289
9,084
2007
12,094
Short-Term Employee Benefits: (1)
Paid Vacation According to the Yearly Vacation Law, 1951, Company employees are entitled to a number of paid vacation days for each work year. In accordance with the law in question and an amendment thereof established in the agreement between the Company and its employees, the number of vacation days to which each employee is entitled is determined in accordance with the employee's seniority. Employees are entitled to 22 vacation days per year (with the exception of a minority entitled to 30 days per year), and to accrue the balance of unused vacation days. Vacation days are first used from the current year's allotment and later from a balance passed forward from the previous year (on an LIFO basis). Employees who have left the Company prior to making use of the balance of his accrued vacation days is entitled to payment for the balance of these vacation days upon leaving. Up until December 31 2008, the calculation of the vacation provision differentiated between short term and long term vacations, this based on Company management's estimates regarding the timing of the exercise of vacation days of Company employees. Under this assumption, the provision to long term vacation was calculated using actuary estimates. The Company's liability for total employee vacation days was presented in the framework of liabilities due to employee benefits in the framework of the Company's current liabilities. Starting January 1 2009, the Company has applied the revision to IAS 19, "Employee Benefits." This revision states that accumulated entitlement to compensation due to absences shall be classified as a short term employee benefit, or as a long term employee benefit based on the date on which the employee received the right to the benefit. As a result, the Company presents vacation benefits as short term employee benefits, equal to the non-capitalized sum the Company expects to pay for the exercise of this right, while taking into account pay raises expected within a year of the balance sheet date.
(2)
Composition
2009
Wages, salaries and social benefits Vacation and rest days Other Total
(3)
32,799 48,581 2,332 83,712
As of December 31 2008 Thousands of Dollars 41,925 46,005 2,277 90,207
2007
50,611 44,183 1,391 96,185
Further Information - Related Parties For information on current employee benefit obligations granted to related parties see Note 38.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 24 -
Unearned Revenues Unearned Revenues – Current Liabilities Composition: As of December 31 2008 Thousands of Dollars
2009
Unearned revenues from the sale of flight tickets Unearned revenues due to frequent flyer points, see Note 3d. Other unearned revenues
2007
175,127 29,106
172,237 25,466
188,751 24,349
211
208
-
204,444
197,911
213,100
Unearned Revenues – Non-Current Liabilities Composition: 2009 Unearned revenues due to frequent flyer points, see Note 3d. Note 25 -
As of December 31 2008 Thousands of Dollars 52,434
50,813
2007 50,134
Other Financial Liabilities a.
Composition Current Liabilities As of December 31 2009
2008
Thousands of Dollars Financial liabilities at fair value via gain/loss: Interest rate swap contracts Jet fuel hedging transactions Derivative financial instruments designated as hedging item measured at fair value: Interest rate swap contracts Jet fuel hedging transactions
Total other financial liabilities
Non-Current Liabilities As of December 31 2009
2008
Thousands of Dollars
Total As of December 31 2009
2008
Thousands of Dollars
2,659 51,447 54,106
85,718 85,718
899 361 1,260
4,119 61,140 65,259
3,558 51,808 55,366
4,119 146,858 150,977
1,537 -
716 21,638
18,875 -
21,530 -
20,412 -
22,246 21,638
1,537
22,354
18,875
21,530
20,412
43,884
55,643
108,072
20,135
86,789
75,778
194,861
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
b.
Repayment Dates as of December 31 2009 Thousands of Dollars First year
55,643
Second year Third year
8,146 11,989 20,135 75,778
c.
Further Information Regarding liens – see Note 40. Regarding deposit pledged from jet fuel hedging transactions, see Note 5b.
Note 26 -
Leasing Fees Payable a.
Financing Lease Arrangements During 2006, the Company entered into two capital lease agreements for the acquisition of computer and other equipment at a total original amount of $1,014 thousand. This equipment is included in the framework of the Company's fixed assets. During 2007, the Company entered into another agreement to upgrade a computer system, against long-term credit totaling $98 thousand. As of December 31 2009, there was no balance of leasing fee payment for the transactions in question (as of December 31 2008: $254 thousand, included in the current maturities of long term loans) see Note 18 above.
b.
Operational Lease Arrangements (1) General The Group entered into operational lease arrangements for aircraft which as of the balance sheet date extended to periods of between 10 months and 7 years, which include an extension option for up to one additional year. The Group does not have an option to purchase the leased assets at the end of the lease period. In addition, the Company has a lease agreement with the Israel Airport Authority (see Note 29.d.3). (2) Payments Recognized as Expenses For the Year Ended December 31 2008 2009 Thousands of Dollars 53,341 39,340 2,208 2,208 41,548 55,549
Aircraft leases Land usage rights
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
(3) Commitments for Minimal Future Leasing Payments for Non-Revocable Operational Leases As of December 31 2008 2009 Thousands of Dollars 2009 2010 2011 2012 2013 onward
40,552 26,476 18,558 78,398 163,984
36,696 36,115 25,043 6,248 46,837 150,939
Minimal leasing fee obligations do not include payment for maintenance reserves for operational aircraft leases. Regarding minimal future lease payment liabilities for non-revocable operational leases, the Group recognized the following liabilities: As of December 31 2008 2009 Thousands of Dollars Leasing incentives (see Notes 29.d.3 as well as 26.b.3) 4,228
Presented under other payables – non-current
Note 27 -
3,297
Provisions a.
Components Current As of December 31 2008 2009 Thousands of Dollars
Provisions for salaries and institutions (see e.) Provision for productivity incentives (see. c.) Legal proceedings (see d.) Cargo claim provision (see d.) The State of Israel (see Note 23.b.3.b) Other Total provisions
Non-Current As of December 31 2009 2008 Thousands of Dollars
Total As of December 31 2009 2008 Thousands of Dollars
43,242
38,736
-
-
43,242
38,736
1,511 7,933 4,531 57,217
3,493 3,699 7,821 3,300 57,049
-
11,728 11,728
1,511 7,933 4,531 57,217
3,493 15,427 7,821 3,300 68,777
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Current As of December 31 2007 Thousands of Dollars Provisions for salaries and institutions (see e.) Provision for productivity incentives (see. c.) Legal proceedings (see d.) Cargo claim provision (see d.) The State of Israel (see Note 23.b.3.b) Other Total provisions b.
Balance as of January 1 2009 Additional provisions recognized Updating existing provisions Sums used during the period Sums cancelled during the period Classified to other payables Exchange rate influence Balance as of December 31 2009
Total As of December 31 2007 Thousands of Dollars
34,519
-
34,519
11,400 4,302 7,436 8,862 66,519
-
11,400 4,302 7,436 8,862 66,519
Movement Provision for salaries and Institutions
Balance as of January 1 2008 Additional provisions recognized Updating existing provisions Sums used during the period Sums cancelled during the period Exchange rate influence Balance as of December 31 2008
Non-Current As of December 31 2007 Thousands of Dollars
Provision for Productivity Incentives
Legal Proceedings
Cargo Claim Provision
The State of Israel
Other
Total
34,519
11,400
4,302
-
7,436
8,862
66,519
1,778
-
429
15,427
323
-
17,957
3,075
-
(56)
-
-
-
3,019
(627)
-
(72)
-
-
-
(699)
-
(11,400)
(1,110)
-
-
(5,562)
(18,072)
(9)
-
-
-
62
-
53
38,736
-
3,493
15,427
7,821
3,300
68,777
38,736
-
3,493
15,427
7,821
3,300
68,777
1,438
-
873
-
54
1,231
3,596
3,067
-
753
-
-
-
3,820
(334)
-
(823)
(3,265)
-
-
(4,422)
-
-
(2,784)
-
-
-
(2,784)
-
-
-
(12,162)
-
-
(12,162)
335
-
(1)
-
58
-
392
43,242
-
1,511
-
7,933
4,531
57,217
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
c.
Productivity Incentives: As part of the collective agreement, the Company pays its ground workers productivity incentives for streamlining and reducing personnel inputs (measured in hours of payment) to the output unit (hereinafter – "Productivity"), and in accordance with the Improver Method. The Improver Method is based upon the even distribution between the parties (Company and employees) of the money saved by the Company by streamlining and reducing personnel inputs per productive unit. The productivity incentives are paid monthly and are limited to a ceiling of 20% of an employee's salary. Productivity surpluses (if such exist) are kept in a "bank" for future use. On the basis of the indices taken into account in establishing the "general productivity rate" and on the basis of Management's estimates, a provision to the amount of $11,400 thousand was included in the December 31 2007 Financial Statements. Following that stated in Note 23.b.12, on November 2 2008 a collective agreement was signed by the Company, the employees' representatives and the Histadrut. This agreement supplants and revokes the terms of the previous collective agreement, including the Company's liability as regards productivity incentives. As a result, the provision in question was cancelled in 2008.
d.
Legal Proceedings As of December 31, 2009, legal claims in a total amount of approximately $139 million had been filed against the Company with respect to which the Company had recorded provisions in the financial statements, based on the Company's legal counsel, of approximately $2.6 million ($1.1 million of which is under non-current liabilities due to employee benefits). Legal claims non-quantified in monetary amounts have also been filed against the Company. The above provision in the financial statements also includes provisions for non-quantified claims, as estimated by Company management. In the assessment of Company management, based upon the opinions of its legal counsel, it is not anticipated that the Company will be exposed to an additional loss with respect to the abovementioned claims in excess of the above provisions recorded in the financial statements. The following is a detailed summary of material legal and financial claims: a)
Class actions: 1.
Between 1998 and 2009, several class actions were filed against the Company, some of which are quantified and some are not, totaling 391.6 million NIS ($103.7 million as of the balance sheet date) as follows: (1) A claim regarding overbilling for flight tickets by travel agents as a result, allegedly, of the use of incorrect exchange rates. (2) A claim that a travel agent charged a travel fee at a rate higher than that legally allowed, that being the representative rate, and that the Company is responsible for the actions of these agents. (3) A claim that charging customers purchasing flight tickets directly (and not through travel agents) using credit cards are charged in foreign rather than Israeli currency, a foreign currency commission to the amount of 2% of the cost of the ticket (for converting the payment in foreign currency to Israeli currency) to the credit card companies, constitutes a violation of the consumer Protection Law, 1981, a violation of good faith and creation of illicit gains. (4) A claim that the prices collected by the Company for excess baggage in its flights are at excessive rates and are calculated separately from the Company's regular prices. (5) A claim that the claimant's flight from Madrid to Tel Aviv was postponed due to a strike at BGA and that she was not attended to by the Company causing expenses, distress and loss of time, (6) A claim filed to the New York State Supreme Court that the claimants were charged international conversion fees on their credit cards for the purchase of airline tickets of the Company in the U.S. using the credit cards of the credit card company sued. (7) A claim that the Company had failed to meet the requirements of Revision 40 to the Communications Law (Telecommunications and Broadcasts) 2008, known as the Spam Law, which forbids the transmission of advertising via email, fax, text message or telephone without the recipient's consent.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
All of the claims in question against the Company were dismissed in 2008 and 2009, some by way of a settlement (2 flight tickets), and some by the Company refunding trial costs. 2.
b)
On January 22, 2007, a claim was filed against the Company in Jerusalem District Court, together with a motion for recognition as a class action, in the amount of NIS 483.4 million ($128 million as of the balance sheet date). The plaintiffs allege that the collection of a security fee of $8 per flight leg, from passengers in flights that are not flown by the Company itself, but by other airlines under code sharing arrangements, constitutes misleading the consumer, breach of the agreement with him, the absence of good faith and unlawful enrichment, since, the plaintiffs allege, these flights do not provide security services at the same standard and quality as the services provided by the Company. The plaintiffs requested that the Company be required to pay each of these passengers the sum of $8 as well as damages of NIS 500 for emotional distress and loss of benefit. On August 19 2009, the Court rejected the motion in question and ruled the petitioners liable for expenses to the Company. An appeal was filed before the Supreme Court on October 22 2009.
Legal proceedings in the field of Restraint of Trade overseas: (1) In February 2006, the Antitrust Division of the U.S. Justice Department ("Antitrust Division") began an open investigation against several airlines, together with additional competition authorities in Europe and other countries, of alleged suspicion of price fixing with respect to certain increments to prices of air cargo transport. Several cargo transporters announced that they had received Grand Jury subpoenas pertaining to this investigation. On September 27, 2006, the Company received a grand jury order from the Antitrust Division demanding information and documents regarding pricing practices and certain surcharges related to cargo transportation, since early 1999 and through the date of said order. The Antitrust Division has informed the Company that it is under inquiry as a suspect. On May 25 2008 the Company's Board of Directors reached a decision regarding the listing of a provision in the Financial Statements at a capitalized rate of $20 million U.S. for the aforementioned antitrust investigation. The decision was made based on a study of the possibility of a settlement with the U.S. Justice Department and was carried out as a matter of prudence and not as an admission of liability. On January 21 2009 the Company's Board of Directors approved a plea bargain made with the U.S. Justice Department to end the process. Within the framework of the plea bargain, the Company was required to admit that it had violated U.S. antitrust law and was involved in the fixing of one or more price components in the field of air cargo shipping to and from the U.S. in the period between January 2003 and February 2006, and was required to pay a fine of $15.7 million (a capitalized sum of $15.4 million to be paid in several interest-bearing installments across four year period). In addition, the Company undertook to continue its full cooperation with the U.S. Justice Department in its investigation. As part of the agreement, the U.S. Justice Department agreed not to file additional charges against the Company or charges against Company employees and executives, past or future (with a few exceptions) regarding violations of U.S. antitrust laws made in the field of airborne cargo transport prior to entry into the plea bargain. A U.S. Federal Court approved the decision on February 4 2009. (2) In December 2006, the Company received a letter from the European Competition Commission ("the Commission") at its Germany office, which contained a request for information in connection with an investigation being carried out by the Commission. The letter noted that the request for information was in the in connection with activities that, allegedly, cause damage to competition in the sector of air transport services for cargo, and that the Commission has information regarding extensive contacts that took place between airlines and other entities with regard to various price increments and other matters such as cargo transport rates. In the context of the letter, the Company was requested to submit data and documentation regarding the Company and its cargo activities, commencing with 1995. The Company has provided its response as requested by the Directorate's letter, while conducting an internal review of its cargo pricing practices.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
According to publications by the Commission and by several foreign companies, in December 2007 the Commission sent a "statement of objection" to several airlines with regard to the aforementioned inquiry, including claims of alleged breach of competitive statutes of the European Union. To date, the Company has not received the aforementioned letter of claims, and to the best of its knowledge it is not among the companies to which the letter of claims was sent. At this stage, the Company is unable to evaluate the outcome of the investigation of the Commission or to estimate the possible financial effect of the investigation on the Company, and accordingly, these Financial Statements do not include a provision for this investigation. Nevertheless, it should be pointed out that according to legal advice received from its overseas legal counsel, the implications might include administrative proceedings against the Company, including a serious fine that could be imposed on the Company at the conclusion of the proceedings. (3) In February 2007, the Company received a statement of claim filed in a New York court in the matter of the rates for air cargo transport services. In the statement of claim in question, the Company was included as a defendant, along with 38 other airlines, which alleged that the defendants were partners in a conspiracy to fix prices for air cargo transport services, beginning in 2000, while violating competition and other laws in Europe and the United States. The claim was filed in the name of entities that purchase air transport services, directly and indirectly and it also included a motion for class action recognition. The claim includes a request for damages in an unspecified amount as well as additional remedies. The Company joined a mutual defense team of the other airlines being sued, within the framework of which several preliminary motions were filed with the Court, including a motion to dismiss the claim. In view of the early stage of the process, the Company is unable to assess the possible outcome or the possible financial effect of the proceeding on the Company, and no provision has been made in the Financial Statements for this claim. (4) In August 2008, the South Korea Fair Trade Commission (hereinafter: "the Korean Commission") presented the Company with a request for information pertaining to an investigation the Korean Commission is holding regarding possible violations of Korean competitiveness rules in the field of air cargo shipping for the period starting 1999. In February 2009, the Company received a request for complementary information from the Korean Commission. The Company has provided its responses to the requests in question. To the best of the Company's knowledge, the Korean Commission is investigating a series of airlines. In February 2009 the Company received a request for complementary information from the Korean Fair Trade Commission. The Company has provided its responses to the requests in question. To the best of the Company's knowledge, the Korean Commission is investigating a series of airlines. In October 2009, the Korean antitrust authority sent out an "inspection report" to several airlines pertaining to the investigation in question containing claims on the matter of alleged violations of Korean antitrust laws. The Company has not received the inspection report in question and to the best of its knowledge is not numbered among the companies to which the inspection report was addressed. The Company cannot at this stage estimate the results of the Korean Commission's investigation or assess the investigation's possible financial impact on the Company, and as a result no provision has been made for this claim in the Financial Statements. (5) The aforementioned proceedings involving investigations by antitrust authorities may have a material impact on the Company as a result of the fines these entities may demand which may be particularly high. (6) On May 7 2009, the Company received a copy from a motion to approve the filing of a derivative claim and a draft of the claim itself, which were filed before the Tel Aviv-Yaffo District Court. The filing party, who claims to hold 4,500 Company shares (which constitute 0.001% of the Company's equity) asks that the Court approve the claim as a derivative claim against a number of executives serving at the Company in 2003 and who no longer serve at the Company ("the Claim"), based on the allegation that these executives allegedly violated C-68
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
their due diligence obligations towards the Company by causing the Company to be involved in fixing one price component, or more, in the field of cargo transport to and from the U.S. in the period in question and thus, they claim, they caused damage to the Company of at least $15.7 million U.S., this pursuant to the settlement between the Company and the U.S. Justice Department the Company reported on January 22 2009. The claim was preceded by a motion to file a derivative claim which was rejected by the Company after the Company's Board of Directors decided that it would not be in the Company's best interests to file such a claim against Former Company executives. The Company has filed its response to the motion to submit a derivative claim, stating that this motion must be dismissed c)
Other material legal proceedings: (1) In the years 2008 and 2009 legal proceedings were conducted between the Company and Sabre Inc. (a company registered in the U.S., hereinafter: "Sabre") and between the Company and Sabre Marketing Nederland BV (a Company registered in the Netherlands), regarding the collaboration agreements signed between the companies to the amount of $104.4 million. On October 1 2009 a series of agreements was in which all disputes and legal proceedings between the parties would be concluded . Accordingly, the commercial agreement at the basis of the joint company – Sabre Israel - was concluded, and on the date of the settlement the Company sold the entirety of its holdings in the joint company (49%) in return for the payment of the Company's share of the joint company's equity and the joint company also repaid the owner's loan granted by the Company, the balance of which equaled a sum of $1.2 million U.S. In addition, The Company and Sabre entered into a new agreement, updating the existing agreement for distribution using the Sabre distribution system, allowing Israeli travel agents connected to this system to work in a full content format . In addition, according to the settlement the Company cancelled charges issued to the joint company for data processing and communications expenses and paid the joint company sums offset in the past by those charges, concurrently with the cancellation of the additional arbitration process beginning in Israel in relation to these sums. As a result of the aforementioned settlement, the Company listed a reduced provision to the amount of $1.7 million U.S. in its Q3 2009 Financial Statements. (2) In October 2005, a claim was filed in the Supreme Court of Ontario, Canada against the Company and additional defendants by a former employee of the Company for alleged sexual harassment and sexual molestation. The amount of the claim was approximately $2.2 million Canadian (approximately $2.1 million U.S as of the balance sheet date). In February 2007, a claim was filed against the Company and other parties in the New York State Supreme Court by an employee of the Company for allegations of sexual harassment by a Company employee in the U.S. The Company filed its statement of response and hearings were held on this case. The Company has made a provision for this claim based on the advice of its legal counsel. (3) In June 2006, a suit was filed against the Company and the State of Israel-Ministry of Finance by 94 claimants who were employed by the Company and took early retirement between 2001 and 2003. The claimants in their suit have appealed for declaratory relief/order of performance to amend their retirement agreements in a manner in which the retiree will receive the early pension stipend, including fringe benefits, until the legal retirement age, instead of until the age of 65; alternatively, the claimants appealed to revoke the retirement agreements. The claimants quantified their claim at NIS 18.2 million (some $4.8 million on the balance sheet date). In January 2009 the Court ordered that this claim be combined with two other claims. On January 6 2009 it ruled that the claimants submit their position regarding the limitation of the causes of the claim. The Company allowed a provision for this claim in its Financial Statements, based on the opinion of its legal counsel.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
d)
Other proceedings: Currently, additional legal claims totaling $1.8 million exist against the Company, for which the Company has made provisions in its Financial Statements based on the advice of legal counsel.
e)
Income Tax – Withholding Tax The Company received agreed assessments for withholding tax through the 2005 tax year. As for the matters remaining in dispute, the Company received assessments for the years 1998-2005, amounting to approximately NIS 162.3 million ($43 million), including interest and linkage (not including fines). The following issues remain in dispute: a.
The Company paid for flight tickets granted on an available seat basis to employees, at a rate of 22.5% of the average price to the public at large for a flight ticket in the most common economy class, this according to an arrangement conducted in the past with Income Tax and revoked in 1997. The assessor has determined, in assessments issued for the Company for 1998-2005, the value of the flight ticket at variable rates from the price of economy class tickets, which are higher than the rate set by the Company above (up to 75% of the price of an average ticket), this based on the average load factor for the month in which the flight took place.
b.
For flight tickets on the basis of a guaranteed seat the Company allows its employees to purchase in return for a payment of 50% of the cost of a flight ticket set by the Company as an average economy class price, the Company paid fixed tax levels, but in assessments issued for the Company for 2001 to 2005, Income Tax determined that the value of the flight ticket is 214% of the price of an average economy class ticket.
c.
In addition, the assessments issued for 1998 through 2002 included tax debits for employees stationed abroad for periods of over 4 years as well as for a tax offset paid by the employees in the U.S. The Company disputes the decisions of Income Tax regarding the three issues mentioned above and has appealed the assessments before the Tel Aviv-Yafo District Court. The Company is in possession of economic opinions materially different from those of the Income Tax assessments. The parties have entered talks in order to reach an agreement regarding the assessments in question, however as of the date of this report the chances of reaching an agreement cannot be estimated. The December 31 2009 Financial Statements include a provision, which, in management’s opinion, based on the advice of legal counsel, covers the anticipated liability with respect to the above withholding tax assessments and tax demands, including the additional period up to, and including, 2009.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Note 28 -
Taxes on Income a.
Deferred Tax Balances The composition of deferred tax assets (liabilities) are detailed below: Transferred Charged to from Equity to Shareholders' Statement of Equity Operations Thousands of Dollars
Changes in Tax Rates
Balance as of December 31 2009
633 -
46,223
10,483 (184,906)
-
-
-
5,103
(4,275) (6,727)
-
-
(5,675) (79)
31,649 5,508
(122,578)
(22,623)
(28,064)
633
40,469
(132,163)
120,706
47,148
-
-
(41,004)
126,850
(1,872)
24,525
(28,064)
633
Balance as of January 1 2008
Charged to Statement of Operations
(1,788) (224,650)
(3,011) (1,935)
41,338 -
2,183 -
228
(5,488)
16,632
-
-
-
11,144
53,848 11,444
(10,132) 870
-
-
(2,117)
41,599 12,314
(166,634)
2,424
41,338
2,183
(1,889)
(122,578)
Unused tax losses and benefits Losses for tax purposes
115,452
4,256
-
-
998
120,706
Total
(51,182)
6,680
41,338
2,183
(891)
(1,872)
Timing Differences Cash flow hedging Fixed assets Financial assets at fair value via gain/loss Provisions, doubtful debts and liabilities for employee benefits Frequent flyer plan Total Unused tax losses and benefits Losses for tax purposes Total
Timing Differences Cash flow hedging Fixed assets Financial assets at fair value via gain/loss Provisions, doubtful debts and liabilities for employee benefits (*) Frequent flyer plan (**) Total
Balance as of January 1 2009
Charged to Statement of Operations
38,722 (226,357)
(808) (4,772)
(28,064) -
11,144
(6,041)
41,599 12,314
Transferred Charged to from Equity to Shareholders' Statement of Equity Operations Thousands of Dollars
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(535)
Changes in Tax Rates
(5,313)
Balance as of December 31 2008
38,722 (226,357)
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Transferred from Equity to Charged to Statement of Shareholders' Operations Equity Thousands of Dollars
Balance as of January 1 2007
Charged to Statement of Operations
(1,383) (240,800)
1,755 14,535
(1,627) -
465
(5,953)
49,236 9,418
Changes in Tax Rates
Balance as of December 31 2007
(533) -
1,615
(1,788) (224,650)
-
-
-
(5,488)
8,082 2,026
-
-
(3,470)
53,848 11,444
(183,064)
20,445
(1,627)
(533)
(1,855)
(166,634)
Unused tax losses and benefits Losses for tax purposes
144,798
(31,388)
-
-
2,042
115,452
Total
(38,266)
(10,943)
(1,627)
(533)
187
(51,182)
Timing Differences Cash flow hedging Fixed assets Financial assets at fair value via gain/loss Provisions, doubtful debts and liabilities for employee benefits (*) Frequent flyer plan (**) Total
(*)
After the impact of the retroactive implementation of IAS 19 – Employee Vacation Benefits, see Note 3d.
(**)
After the impact of the retroactive implementation of IFRIC 13 – Customer Loyalty Programs, see Note 3d.
b.
Timing Differences due to Investments in Investee Companies for which No Deferred Tax Liability was Recognized The Group did not recognized deferred tax liabilities for subsidiaries and investee companies as the Group intends to hold and develop the investments, and the decision exists not to distribute taxable dividends in the foreseeable future. In addition, dividends from subsidiaries and associated companies are not taxable
c.
Tax Expenses (income) on Income Charged to the Statement of Operations 2009
Current tax expenses Deferred taxes Total tax expenses (income)
99 (24,623) (24,524)
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2008 Thousands of Dollars 171 (7,972) (7,801)
2007
18 11,289 11,307
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
d.
Effective Tax 2008 Thousands of Dollars
2009
Profit (loss) before tax on income according to Statement of Operations Statutory tax rate Tax expenses (revenues) according to statutory tax rate Tax surcharge (savings) due to: Non-deductible expenses Differences in the calculation of taxable income due to exchange rate differentials Adjustments due to changes in tax rates Total taxes on income (tax benefit) presented in Statement of Operations e.
2007
(101,266)
(50,251)
49,000
26%
27%
29%
(26,329)
(13,568)
14,210
1,270
4,876
570
535
891
(3,286) (187)
(24,524)
(7,801)
11,307
Tax Laws Applicable to Group Companies According to the Adjustments Law and the Income Tax Regulations (Rules Concerning the Maintenance of Accounting Records of Companies in Foreign Investments and of Certain Partnerships and the Determination of their Taxable Income), 1986 ("the Dollar Regulations"), the results of the Company and some of its subsidiaries for tax purposes are measured on the basis of adjustment to the exchange rate of the U.S. dollar. The Company’s main subsidiaries operating in Israel are subject to the Income Tax Law (Inflationary Adjustments), 1985 ("the Adjustments Law"), which measures results in real terms on the basis of adjustment for changes in the CPI. On February 26, 2008, the Knesset passed in the third reading the Income Tax Law (Inflationary Adjustments)(Amendment No. 20)(Limitation of Effective Period), 2008 ("the Amendment"), whereby the effective incidence of the Adjustments Law will end in the 2007 tax year, and as from the 2008 tax year, the provisions of the law will not apply, except for the transitional provisions, the purpose of which is to prevent distortions in the tax computations. In accordance with the Amendment, starting tax year 2008, the adjustment of taxable income to a real basis of measurement shall no longer be calculated. In addition, depreciation of fixed assets and sums of losses transferred for tax purposes shall no longer be linked to the CPI, in such a manner that theses sums will be adjusted to the CPI of the end of the 2007 tax year, and their link to the CPI shall be discontinued from that date onward. The Dollar Regulations will continue to apply to the Company even after the effective period of the Adjustments Law ends. Some subsidiaries are assessed jointly with the Company. The Company is deemed an industrial company under the Law for the Encouragement of Industry (Taxes), 1969 and, accordingly, is entitled to accelerated depreciation rates on aircraft and equipment as well as amortization of costs incurred in connection with the registration of shares for trading on a stock exchange. Pursuant to the Income Tax Regulations - Depreciation, 1941, the Company is entitled to depreciate the cost of owned aircraft and spare engines at an annual rate of 30% and 40% of cost, respectively. Overseas subsidiaries are subject to the tax codes in effect in their countries of residence. C-73
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Most of the countries in which the Company operates representative offices are signatories to treaties or mutual arrangements for the prevention of double taxation, which exempt the Company from income taxes on their operations in these countries. In accordance with Amendment 147 to the Income Tax Ordinance, 2005, the 34% corporate tax rate shall be gradually reduced starting 2006 (for which a tax rate of 31% was established) until 2010, for which a tax rate of 25% was established (the tax rates in 2007, 2008 and 2009 are 29%, 27% and 26%, respectively). On July 23 2009 the Economic Streamlining Law 2009 (Legislative Changes to Implement the 2009 and 2010 Economic Plan) (hereinafter - "the Arrangements Law") was published. According to the Arrangements Law, corporate tax rates will gradually decrease starting 2011, for which a tax rate of 24% was set, to tax year 2016, for which a corporate tax rate of 18% was set. The implementation of these amendments had an impact on the Company's deferred tax balances and on the increase in the Company's tax benefit for 2009, see Note 28d. e.
Note 29 -
Final Assessments 1.
The Company was issued its 2005 tax assessment on December 30 2008 to the amount of NIS 1.4 million ($0.4 million). This sum includes interest and linkage to the end of 2008. Full payment for the assessment was made in January 2009.
2.
The Company has received final tax assessments up to and including 2002. In addition, the Company has received tax assessments considered final up to and including tax year 2005. Chief subsidiaries have received tax assessments considered final for up to and including tax year 2005
Pending Liabilities, Guarantees and Commitments a.
Pending Liabilities In the matter of lawsuits see Note 27d above.
b.
Safety Rating Decrease On December 19 2008 the U.S. Federal Aviation Agency (the FAA) announced that it would be lowering the flight safety rating of the State of Israel to Category 2. This announcement refers to the level of supervision of civil aviation safety in the State of Israel by Israeli aviation authorities, most particularly the Civil Aviation Authority at the Ministry of Transportation. Although the FAA announcement was not issued against the Israeli airlines and that the inspection or safety rating do not derive from the abilities or safety status of Israeli airlines the implication of the announcement is the placing of active limitation on airlines flying from Israel to the U.S., including the Company, pertaining to, inter alia, restrictions on increased activity, testing Israeli airlines in the U.S. as well as restrictions on code sharing agreements with U.S. airlines. The impact of the decrease rating may harm the Company including by freezing bilateral agreements and the lack of ability to alter existing agreements; freezing commercial agreements without the option of submitting requests to add frequencies, adding landing times, changing destinations or receiving new destinations; freezing airline operational operators licenses and the inability to add or integrate new aircraft to these routes; harm caused to code sharing agreements; careful inspection of all aircraft arriving from Israel to the U.S. , which may lead to significant delays in planned flight times. The Company has been conducting tests to assess the announcement's impact on its activity and financial results. Note that in March 2009 the Company addressed a letter to the Minister of Transportation and Road Safety in which it noted that the State was responsible for the decreased flight safety rating and the damages caused the Company as a result. In addition, the Company approached the CAA with a request to conduct all actions required in conjunction with European safety authorities in order to prevent a similar European announcement. The CAA replied to the Company that Israeli aviation authorities have been maintaining close contacts with the European counterparts in order to ensure that no harm occurs to Israeli aviation and that EU representatives have informed CAA representatives that they have no intention of lowering the safety ratings of Israeli airlines. C-74
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
c.
Guarantees: Composition of guarantees provided by the Company to third parties:
To secure employee retirement programs To secure employee loans To secure subsidiaries’ liabilities To aviation authorities, customs authorities and other third parties
d.
As of December 31 2009 2008 Thousands of Dollars 4,653 221 100 7,920
4,620 126 100 5,102
12,894
9,948
Commitments 1.
Collective labor agreements On November 2 2008 a collective agreement was signed by the Company, the employees' representatives and the Histadrut following the Board of Director's approval of the Agreement on October 27 2008. For the key points of this agreement see Note 23.b.(12) above.
2.
3.
Leasing and rental fees a.
The Company leases planes under operating leases, generally in return for monthly leasing fees plus a payment for maintenance, reserves based on actual flight hours. Most of the agreements include options for extending and shortening the leasing contracts.
b.
For details on of the minimum lease fees for the fixed components (but excluding the payment for the maintenance reserves) see Note 26.b (3)
c.
The Company has lease commitments for land and buildings in Israel and abroad, including in various airports, as well as offices used by its branches.
Commitments with the Israel Airports Authority (IAA) a.
The Company has a use-right (permit) to 290 hectares of land at BGA until December 31, 2010 (with an option to renew it for an additional 25-year period). Before privatization, on May 19, 2003, the Company and the IAA, with the approval of the Ministerial Committee for Social and Economic Affairs, reached an understanding concerning new permit fees for which the Company will be obligated to the IAA. Under this agreement, the annual payment for the areas referred to above will be $960 thousand in 2005, rising by 7.4% per annum up to a maximum of $4 million per annum.
b.
On October 19, 2004, an amendment was added to this agreement, according to which in addition to the payment for the land, the Company shall pay the IAA annual usage fees for certain fully depreciated buildings and installations.
c.
The Company has a usage fee agreement (permit) with the IAA for a passenger service warehouse in BGA encompassing 4,380 square meters. The annual usage fees are $480 thousand. The agreement is in effect until December 31, 2009. An extension of the agreement to December 31 2012 is currently in its final stages of signing.
d.
The Company has usage rights to areas in BGN for its cargo shipping activity, which include the Maman Building compound, amounting to 275 sq. meters in size, in return for yearly usage fees of $140 thousand. This agreement was extended to December 31 2011.
e.
The Company is obliged to pay flight fees, airport taxes and permit fees to the IAA. The Company enjoys the maximum reduced rate due to the volume of its activity at BGN.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
f.
In November 2004, within the framework of Ben Gurion 2000, the IAA opened Terminal 3. In light of the transfer of some of the Company's activity to terminal 3, an agreement was signed in December 2006 between the Company and the Airport Authority as regards the use of the Terminal 3 passengers' lounge. The agreement shall remain in effect until November 2010, for total consideration of up to $1,750 thousand per annum, plus an option for a 3-year extension. Additionally, agreements were signed to give permission for other areas in Terminal 3 until November 2014, for consideration of $1,770 thousand per annum. In April 2000, the Company signed a new agreement-in-principle for leasing an area of 20 dunams in order to set up a maintenance center, a hangar and supporting facilities within the framework of Ben Gurion 2000. The IAA council ratified the transaction, but the agreement is subject to the signing of a detailed agreement between the parties as well as the ratification by the Company’s Board of Directors. As of these statements, no detailed agreement has yet been signed between the parties. Note that the Company is paying yearly reservation fees to the IAA for the areas in question at an insignificant sum.
4.
Commitments for Maintenance of Engines and Aircraft The Company has several agreements with various entities for maintenance services to engines and planes. The agreements are long-term (up to 20 years). Some of the agreements are based on time & materials while others are based on cost per hour flown. In January 2009 the Company signed an agreement to provide heavy maintenance and logistical support upon request of Nepal Airlines for Boeing 757 aircraft. The Company's expected revenue as a result of signing this agreement is $6 million over the course of 3 years (2009-2011). Regarding engine maintenance agreements carried out in 2009, see Note 16j.
5.
Code sharing agreements with foreign airlines: In October 2008 the Company signed a code share agreement with Belavia-Belarusian Airlines (hereinafter: "Belavia"). According to the agreement, which is a "soft block" type agreement, El Al shall receive a seat allotment on flights operated by Belavia, which shall operate between 2 and 5 weekly flights on the Tel Aviv-Minsk line, based on the seasonality of traffic. The flights shall operate in an economy class-only configuration. This agreement came into effect on November 30 2008. In April 2009 the Company signed a code sharing agreement with Czech Airlines. This agreement is a block agreement (purchase of a fixed weekly quota of seats from one airline by the other). The agreement came into effect October 25 2009. On September 21 2009 the Restriction of Trade Commissioner reached decisions (hereinafter: "the Commissioner" and "the Decisions", respectively) regarding the Company's request dated March 31 2009 for receipt of an exemption from the requirement for the receipt of court approval for binding arrangements (hereinafter: "the Exemption Request") pertaining to various aviation agreements between the Company and foreign air carriers (hereinafter: "the Arrangements"). According to the Commissioner's decisions, the exemption requests were approved as regards code sharing agreements between the Company and the following carriers: American Airlines, Swiss Airways, Iberia, Czech Airways, and Thai Air. In addition, according to the Commissioner's decisions, the exemption requests for arrangements between the Company and the following foreign carriers were not approved: Lot, Austrian, Tandem, Bulgaria Air and Aerosvit, as well as the commercial agreement between the Company and Air India. The Commissioner provided his grounds for refusing the requests on November 3 2009. Five agreements were withdrawn by the Company prior to the Commissioner's decision. These are agreements with the following companies: Belavia, Brussels Airlines, Korean Airlines, Tarom and South Africa Airways. Note that according to the Restraint of Trade Law, 1988, the Company reserves the right to present the agreements not exempted by the Commissioner to the Restraint of Trade Court for approval. Note that after submitting its exemption request the Company announced that it would be canceling its arrangements with SAA, Belavia and Brussels Airlines. The Company is studying the decisions and shall consider its next step. Recently, the Commissioner issued an exemption for the code sharing agreements between the C-76
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
Company and Air China (signed June 2009) and the Turkish airline Atlas Jet (signed December 2009). Note 30 -
Shareholders' Equity a.
General Following the publication of a prospectus in May 2003 (and amendments to the prospectus dated June 3 and 4, 2003) (hereafter: “the Prospectus”) for the issuance of shares and options to the public, together with a tender offer made by the Government, the Company’s securities were registered for trading on the Tel Aviv Stock Exchange in June 2003. Based on the Prospectus, the Company issued to the public 49,000,000 ordinary shares of NIS 1.00 par value each (“OS”) registered to bearer, with total par-value of NIS 49,000,000, together with 396,000,000 options and buy options registered to bearer,
b.
Share Capital of the Company as of December 31, 2009: Authorized Issued and outstanding Ordinary Special Ordinary Special shares share shares share NIS 1.00 par value NIS
Balance – January 1, 2007 Exercise of options (Series 1) to shares, (see c below) Balance – December 31, 2007
1
550,000,000
1
400,788,334
1
550,000,000
1
94,930,801 495,719,135
Balance – December 31 2008
1
550,000,000
1
495,719,135
Balance – December 31 2009
1
550,000,000
1
495,719,135
c.
In the period from January 1 2007 through June 5, 2007, the public exercised 94,930,801 options (Series 1) for the same number of OS, NIS 1 par value each, issued by the Company, in consideration for $31,820 thousand. These proceeds were deposited in the severance pay fund of entitled employees, except for NIS 30 million not yet deposited, as in Note 23.b.3.b.
d.
On March 23, 2006, the General Meeting of the Company approved the increase of the Company’s authorized share capital by NIS 54,279,453, bringing the total to NIS 550,000,001 after said increase, divided into the State’s special share of NIS 1.00 par value and 550,000,000 ordinary shares registered to bearer of NIS 1.00 par value each.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
e.
Options and Buy Options The following table presents the activity in options and purchase options:
Options (Series 1) Issued in June 2003 Exercised in 2003 Balance – December 31, 2003 Exercised 2004-2007 Expired in 2007 Balance – December 31, 2007
100,000 100,000 (99,999) (1) -
Buy options (Series A) Thousands of Units 138,400 (6,134) 132,266 (132,266) -
Buy options (Series B) 157,600 157,600 (157,600) -
The proceeds from the exercise of the purchase options (Series A and B) were received by the Government of Israel and deposited in the severance-pay fund of entitled employees. f.
The rights accompanying the Special State Share: On May 18, 2003 the Company allotted the State of Israel a special, non-sellable, non-transferable share. This share was designed to protect the State’s vital interests, in accordance with the following Government resolutions: • • • •
Maintaining the Company as an Israeli company, subject to Israeli law; Keeping the operating capability and the flight capability of carrying passengers, and cargo, above a minimum established level; Preventing any hostile interests from taking over the Company; Maintaining security and safety arrangements as determined by state bodies on behalf of the State.
In addition, on October 12, 2004, the Knesset’s Finance Committee approved the issuance of an order under the Government Corporations Act requiring the Company to employ, at any time, Israeli crew members, and – in Israel – Israeli ground personnel, in a number not lower than that required for continuous and simultaneous operations in an emergency of all the aircraft fleets constituting the minimal flying capacity which the Company is required to maintain as stipulated by directives of the Special State’s Share. As of the approval date of the financial statements, the provisions of this order did not obligate the Company to make any changes in its method of operations or composition of employees. g.
Dividend-distribution policy: On November 20, 2007, the Company's Board of Directors resolved to update the dividend distribution policy. Pursuant to this policy, the Company will distribute a dividend from time to time, at the discretion of the Board of Directors and subject to the Company's needs. Implementation of this policy is subject to any relevant law provisions as well as the assessment of the Company's Board of Directors of the Company’s ability to meet its present as well as forecasted liabilities and taking into account its liquidity, and present as well as future business plans and activities. The adoption of this policy does not diminish the authority of the Board of Directors of the Company to decide upon a change, amendment and/or abolition of the currently established dividend policy and/or to approve any additional distributions that comply with the law and/or to decide on a reduction of actual distributions or to preclude them altogether should it be warranted by changes from time to time in the Company’s liquidity, operations and conditions.
H.
Dividend distribution: 1.
On October 7, 2007, the Company’s Board of Directors resolved to distribute a dividend totaling NIS 0.075 per ordinary share, NIS 1 par value. The dividend was distributed in practice on October 29, 2007. The total dividend amount (based on the exchange rate on that date) was $9,313 thousand.
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2.
i.
On December 30, 2007, the Company’s Board of Directors resolved to distribute a dividend totaling NIS 0.023 per ordinary share, NIS 1 par value. The total dividend amount (based on the exchange rate on December 31 2007) was $3,008 thousand. The dividend was actually distributed on January 21, 2008.
Executive option plan: 1.
On February 26, 2006, the Board of Directors of the Company resolved to adopt an option plan for employees and executives of the Company (hereafter: the 2006 options plan). On that date, the Board of Directors of the Company gave its approval that the quantity of options which would serve as a pool for allotment under the plan would stand at 17,092,129 options, exercisable into 17,092,129 ordinary shares of the Company with par value of NIS 1 each, subject to adjustments. The Board of Directors is permitted, from time to time, to add to this quantity of options. At the same time, the Company's Board of Directors approved an allotment of 17,092,129 options to approximately 50 offerees, of which approximately 10 were senior executives of the Company and approximately 40 other executives of the Company. The allotment of the options to the Company's executives was also ratified by the Audit Committee of the Company on February 26, 2006. The allotment of the options was conditional upon the approval of the General Meeting of the Company for the increase in the Company's registered capital. Such approval was obtained on March 23, 2006 and, on the same day, the allotment was executed. The options will vest and become exercisable in equal parts over a 4-year period, beginning from January 1, 2007 (one quarter of the options will vest each year), conditional upon the offeree being employed by the Company, or rendering services to the Company, on the vesting date. All options granted but not exercised will expire and be cancelled at the end of 3 years from the date that each option became vested. The theoretical exercise price of one option into one share will be NIS 2.9733. The exercise price is the theoretical price not paid by the employee. In the event that the option is exercised, the employee will be entitled to shares in a number equivalent to the difference between the price of the underlying share (the closing price on the Tel-Aviv Stock Exchange of one ordinary share of the Company at the end of the trading day on which the Company received the instruction to exercise) and the theoretical exercise price, multiplied by the number of options in his possession, divided by the price of the underlying shares. The theoretical exercise price is subject to customary adjustments in the event of dividend distributions and changes in composition of the Company's capital. The share price for the purpose of the computation is the Company's share price at the close of trading on March 23, 2006 (NIS 3.837). The exercise price is 85% of the share price on February 26, 2006 – NIS 2.973.
2.
On May 23, 2006, the Board of Directors of the Company resolved to increase the quantity of options in the options pool for allotment pursuant to the options plan for compensating Company executives and other employees by another 3,000,000 options. Such options will not be marketable and they will be exercisable into up to 3,000,000 ordinary shares of the Company with par value of NIS 1. The Board of Directors appointed the Human Resources and Appointments Committee to manage the options program and authorized the Committee to allot these options to Company executives, in accordance with the criteria stipulated by the Board of Directors. The theoretical exercise price of each option (as explained in Par. 1 above) will be 85% of the average closing price on the Tel-Aviv Stock Exchange of one ordinary share of the Company during the 30 trading days that preceded the decision of the manager of the program to make an allotment to each offeree, except for an offeree who served in the position of vice-president or division head in the Company on March 23, 2006, and who had not received options according to the allotment decision during the month of March 2006, as to which the theoretical exercise price was set at NIS 2.9733. After the Human Resources and Appointments Committee decided on December 27, 2006 to allot options, 3,072,536 options were allotted on December 31, 2006 to 9 senior employees. The options were divided into four equal installments which will vest over 3.5 years as follows: one quarter will vest on June 30 of each one of the years 2007 through 2010. The theoretical exercise price of one option into one share will be NIS 1.8894, subject to the adjustments made for dividend distributions and changes in the composition of the Company's capital.
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The share price for the purpose of the computation is the price of the Company's share at the close of trading on December 31, 2006 (NIS 2.08). The exercise price is 85% of the average price during the 30 trading days that preceded the Board of Directors' resolution of December 27, 2006, i.e. NIS 1.89. All options granted but not exercised will expire and be nullified 3 years from the date each option vested. 3.
On November 20, 2007, the Company’s board of directors resolved to publish an additional outline for the purpose of allotting options that are located in the options pool available for allotment, in accordance with the option plan for compensation of executives and other employees of the Company, as discussed in i.1 and i.2 above, the balance of which as at such date is 3,382,843 options. The options will be exercisable for up to 3,382,843 ordinary shares, NIS 1 par value of the Company. The board of directors approved the appointment of a Human Resources and Appointments Committee to continue serving as the administrator of the option plan, and empowered the committee to allot the above options to the Company’s managers, in accordance with the criteria provided by the Board of Directors. The theoretical exercise price of each option (as explained in Par. 1) will be 85% of the average closing price of an ordinary share of the Company on the Tel Aviv Stock Exchange during the 30 trading days that preceded the decision of the plan administrator for an allotment to each offeree, and is NIS 2.01. The options will be distributed in four equal installments that will vest as follows: one-quarter will vest on July 1 of each of the years from 2008 to 2011, inclusive. All options distributed but not exercised will expire 3 years from each option's vesting date. Pursuant to this, on December 26, 2007, 2,195,852 options were allotted to six additional executives.
4.
None of the options in the three plans will be registered for trade on the stock exchange, although the underlying shares will be registered for trading on the stock exchange. The options will be allotted to a trustee in conformity with the capital gains alternative under Section 102 of the Income Tax Ordinance.
5.
According to the provisions of Accounting Standard No. 24 (Stock-Based Payment) of the Israeli Accounting Standards Board, the Company will record expenses pertaining to the options grant based on their economic value. The computation is made on the date of the grant, for each batch separately, based on the Black & Scholes model. The expense will be recorded over the vesting period of each batch, with the extent of the expense being a function of the quantity of options granted and the economic value of each option. The option’s value will be computed based on the plan’s terms and subject to the following assumptions: • •
• •
The expected lifespan for the exercise of each installment has been computed as the average of the vesting period of each installment and the expiration date. The standard deviation has been computed based on the daily yield of the price of the share on the stock exchange during a period equaling the expected period for exercise of each batch (as outlined above). The maximum standard deviation taken from the date of issuance of the Company for trading (while neutralizing the first trading day) for batches whose expected period for exercise is longer than the period during which the Company’s shares are traded on the stock exchange. Discount rate–the rate of yield of unlinked debentures (“Shahar”) which conforms to the expected period of exercise of each batch. The computation of the value of the benefit did not take into account the retirement of employees before the end of the vesting period.
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The following is a summary of the parameters used in the model: The Company Plan B
Plan A Share price in NIS Exercise price in NIS Expected fluctuation (in %) Lifespan of options (in years) Risk-free interest rate (in %) Average option value according to B&S (in NIS) Expense recorded in 2007 in thousands of NIS Expense recorded in 2008 in thousands of NIS Expense recorded in 2009 in thousands of NIS Expense recorded in 2007 in thousands of dollars Expense recorded in 2008 in thousands of dollars Expense recorded in 2009 in thousands of dollars
Plan C
3.84 2.97 27.95-36.65 2.11-5.11 4.80-6.45 1.75
2.08 1.89 32.94-36.84 2-5 4.96-5.35 0.75
2.34 2.01 32.57-42.77 2-5 4.58-5.18 0.90
6,485 3,005 1,071 1,579 838 275
1,245 638 27 303 179 6
1,065 156 299 40
-
52 52
146 47 193
Projected expense in 2009 in NIS Projected expense in 2010 in NIS
Plan A
Number of Options Plan B
Plan C
Outstanding as of January 1, 2007 Waived Outstanding as of December 31, 2007
14,892,696 (1,255,946) 13,636,750
3,072,536 3,072,536
2,195,852 2,195,852
Exercisable as of December 31, 2007
3,409,188
768,134
-
Outstanding as of January 1, 2008 Waived Outstanding as of December 31, 2008
13,636,750 (1,959,605) 11,677,145
3,072,536 3,072,536
2,195,852 2,195,852
5,838,573
1,536,268
548,963
11,677,145 (301,651) 11,375,494
3,072,536 (906,538) 2,165,998
2,195,852 (492,394) 1,703,458
8,531,621
1,624,499
851,729
Exercisable as of December 31, 2008 Outstanding as of January 1, 2009 Waived Outstanding as of December 31, 2009 Exercisable as of December 31, 2009 6.
Service Agreement and Option Allocation to the Chairman of the Company's Board of Directors On April 30 2009, the Company Audit Committee and the Board of Directors decided to approve the Company's agreement with the Chairman of the Company's Board of Directors - Mr. Amikam Cohen (hereinafter – "the Chairman) to provide Chairman services retroactively starting February 1 2009 (hereinafter – "the Service Agreement"), the key points of which are described in Note 38j below. The Company Audit Committee and the Board of Directors decided to approve the issue of nontradable options to the Chairman of the Company's Board of Directors (hereinafter – "the Option Plan"). The options shall be granted in the framework of the agreement to provide services as Chairman of the Company's Board of Directors.
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On June 24 2009 the General Meeting ratified the Service Agreement and option issue to the Chairman of the Company's Board of Directors. The Company shall grant the Chairman of the Board 4,650,000 non-tradable options exercisable as 4,650,000 regular NIS 1 par value Company shares (hereinafter – "the Exercise Shares"). The options shall be allocated free of charge. Assuming the exercise of all the options, the Exercise Shares shall constitute 0.95% of the Company's paid-up capital (including fully diluted). The Company has the option of stating that exercise of the options shall take place in return for Company shares of an amount reflecting the sum of the financial benefit embodied in the options alone (cashless exercise) and in the event that the Company chooses this option, the amount of shares actually issued shall be smaller than the rate denoted above. The options may be exercised as Company shares, subject to adjustments and as detailed below: Vesting – The right to exercise the option shall vest in three portions which shall vest throughout the Chairman of the Board's service at the Company, as follows: a. 12 months from the beginning of the Chairman's service, that being February 1 2009 (hereinafter – "the Allocation Date"), the Chairman of the Board shall acquire vesting for the exercise of 1/3 of the options. b. 2 years from the allocation date, the Chairman shall accumulate vesting for an additional 1/3 of the options. c. 3 years from the allocation date, the Chairman shall accumulate vesting for an additional 1/3 of the options. d. Starting from the end of the first year from the allocation date, in the event of the discontinuation of the Chairman's service prior to the passing of two or three years, the Chairman of the Board shall be entitled to a relative portion of the options as stated in paragraphs b. and c. above, in such a manner that every three months after the end of the first year since the allocation date, the Chairman of the Board shall be entitled to exercise an additional 387,500 options. Exercise Price – The exercise price of each option shall be NIS 0.885, the closing price of a Company share on February 1 2009, which is when the Chairman of the Board began his tenure, subject to adjustments established in the Option Plan. Exercise Period – The Chairman of the Board shall be entitled to exercise any option portion vesting as Company shares, starting from the vesting date of each portion until 26 months from the vesting date of each portion (hereinafter as regards vested options – "the Exercise Period"), except if the options or any portion thereof expired prior to the exercise period, all in accordance with the Options Plan. All options granted to the Chairman of the Board and not exercised by him into Company shares by the end of the exercise period shall expire and may not be exercised. Assessing the Fair Value of the Options The fair value of the above options is assessed using the application of the Black & Scholes model (as well as reference to Binomial options pricing model for comparison). In this framework, the Company did not take into account the influence of the vesting conditions The value of the options, based on the following parameters, for the date on which the option plan was approved by the Company's General Meeting was NIS 1,310 thousand (some $332,000 on that date).
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The parameters used in the application of the model, as of June 24 2009, are as follows: Share price (in NIS) Exercise price (in NIS) Expected fluctuation (*) Option lifespan (in years) (**) Risk-free interest rate Expected dividend rate
0.879 0.885 42% -45% 2.4 – 3.7 2.3% - 3.3% 0%
Expense listed in 2009 in thousands of NIS Expense listed in 2009 in thousands of USD
782 200
Expense projected in 2010 in thousands of NIS Expense projected in 2011 in thousands of NIS Expense projected in 2012 in thousands of NIS
397 128 3 528
(*) The expected fluctuation is determined based on historic fluctuations in the price of the Company's share. (**) The lifespan of the options is determined in accordance with the assumption that their exercise is expected to take place in the average period between the vesting period and the end of the options' lifespan. 7.
Option Allocation to the Company CEO On October 21 2009, the Company's Board of Directors decided to appoint Mr. Elyezer Shkedi as the Company's new CEO (hereinafter – "the CEO"). On January 6 2010 the Company's Audit Committee and Board of Directors ratified the CEO's terms of employment, detailed in Note 38l. The Company Audit Committee and the Board of Directors decided to approve the issue of nontradable options to the CEO, as part of the terms of his employment The Company shall grant the CEO 9,914,382 non-tradable options exercisable as 9,914,382 regular NIS 1 par value Company shares which constitute, as of the signing of the agreement, 2% of the Company's paid-up capital and 1.90% fully diluted. The options have been granted in accordance with the Company's 2006 option plan and in accordance with the option agreement with the CEO. Note that the CEO or the Company has the option of stating that exercise of the options will take place in return for Company shares of an amount reflecting the sum of the financial benefit embodied in the options alone (cashless exercise) and in such a case, the amount of shares actually issued shall be smaller than the rate denoted above. The options may be exercised as Company shares, subject to adjustments and as detailed below: Vesting – The right to exercise the option shall vest in three equal yearly portions (one third each year) throughout the CEO's first three years, starting November 1 2009. In the event of the discontinuation of the CEO's employment within six months after a change of control event, all options allocated to the CEO the vesting date of which has yet to be reached shall vest immediately, and they shall be exercisable within 12 months from the date on which the CEO stopped working in practice. Exercise Price – The exercise price of each option shall be NIS 0.965, the closing price of a Company share on November 1 2009, which is when the CEO began his tenure. Exercise Period – Any portion of options vested may be exercised up to six months from the vesting date of that portion, or at the end of twelve months from the actual end of the CEO's employment Adjustments – the amount of options and/or the exercise price, as the case may be, shall be subject to adjustments as detailed in the agreement with the CEO, including adjustments due to dividends and due to merger/sales agreements.
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Assessing the Fair Value of the Options The fair value of the above options is assessed using the application of the Black & Scholes model (as well as reference to Binomial options pricing model for comparison). The value of the options, based on the following parameters, for the date on which the option plan was approved by the Board of Directors, January 6 2010 is NIS 3,847 thousand (some $1,029 thousand on that date). The parameters used in the application of the model, as of June 24 2009, are as follows: Share price (in NIS) Exercise price (in NIS) Expected fluctuation (*) Option lifespan (in years) (**) Risk-free interest rate Expected dividend rate
0.968 0.965 40% - 43% 3.9 – 5.3 3.6% - 4.1% 0%
Expense listed in 2009 in thousands of NIS Expense listed in 2009 in thousands of USD Expense projected in 2010 in thousands of NIS Expense projected in 2011 in thousands of NIS Expense projected in 2012 in thousands of NIS
424 113 2,344 854 225 3,423
(*) The expected fluctuation is determined based on historic fluctuations in the price of the Company's share. (**) The lifespan of the options is determined in accordance with the assumption that their exercise is expected to take place in the average period between the vesting period and the end of the options' lifespan. Note 31 -
Financial Instruments a.
Capital Management Policy The Group manages its capital in order to ensure that the Group's entities may continue to exist as "going concern" while increasing the yield of those holding its equity, this by preserving an optimal ratio of debt to capital. The capital structure of the Company consist of debt, which includes the loans detailed in Note 22, cash and cash equivalents and shareholders' equity which includes issued capital, capital reserves and retained earnings as detailed in the Report of Changes in Shareholders' Equity.
b.
Principal Accounting Policies Details regarding principal accounting policies and methods adopted, including recognition conditions, the basis of measurement and the basis according to which revenues and expenses were recognized relative to each group of financial assets, financial liabilities and capital instruments, are presented in Note 2.
c.
Financial Risk Management Goals The Company has a Market Risk Management Committee headed by the Chairman of the Financial, Budgetary and Balance Sheet Committee, Mr. Nadav Palti, which has the responsibility for determining the policies to cover existing exposures. The CFO is responsible for execution of the policies and to report to the Market Risk Management Committee.
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The Group's financial sector provides services to its business activity, provides access to local and international financial markets, supervises and manages the financial risks involved in the Company's activities by way of internal reports that analyze the level of exposure to risk according to level and strength. These risks include market risks (including currency risk, interest rate risk and jet fuel price risk) credit risk and liquidity risk. The Company reduces the influence of these risks by the use of derivative financial instruments in order to hedge its exposure to risk. Use of the derivative financial instruments is in accordance with Group policy approved by its Board of Directors, which sets written principles regarding: currency risk management, interest rate risk, credit risk, the use of derivative financial instruments and non-derivative financial instruments and the investment of surplus liquidity. Compliance with policy and with permitted exposure levels is supervised by the Risk Management Committee on a continuous basis. The Market Risk Management Committee instructs Company Management from time to time to deviate from said policy for limited amounts of time, in accordance with market developments. d.
Market Risk The Group's activity exposes it primarily to financial risks of changes in the exchange rates of foreign currency (see Section e. below), changes in interest rates (see Section f. below) and price risk due to jet fuel prices (see Section g. below). The Group holds a variety of derivative financial instruments in order to hedge its exposures to market risks, which include: •
Forward agreements for swapping foreign currency for the reduction of the Company's exposure from salary and local supplier payments in NIS.
•
IRS swap agreements to reduce the risk deriving from increases in interest rates.
•
Swap agreements ands options for projected purchases of jet fuel for the reduction of exposure to changes in jet fuel prices.
Over the course of the reported period, no change occurred in market risk exposure factors or in the way the Group manages or measures risk. e.
Currency risk Most of the Company's revenues and expenses are in foreign currency (mainly the USD), other than a number of expenses in NIS, primarily most salary expenses paid in Israel in NIS. Accordingly, a change in the dollar/shekel rate affects the Company's NIS expenses. In addition, in the case of a devaluation of the euro in relation to the dollar, the excess of receipts over payments in euro reduces the Company's revenues. The Company also has balance sheet exposure to a devaluation of the dollar vis-à-vis the NIS due to the excess of financial liabilities over financial assets denominated in a currency other than the dollar (mostly, the NIS). The carrying amounts of the Group's financial assets and liabilities denominated in foreign currency are: Assets As of December 31 2008 2009 Thousands of Dollars Euro or linked NIS
18,541 29,706
15,696 33,224
Liabilities As of December 31 2009 2008 Thousands of Dollars 27,050 26,918
26,513 30,583
Foreign Currency Sensitivity Analysis The Group is exposed primarily to the euro and the NIS The following table details the sensitivity to a 10% increase or decrease in the appropriate exchange rate. 10% is the sensitivity rate used in reports to key administrative personnel, and this index represents Management's estimates regarding the likely possible change in exchange rates. The sensitivity analysis includes existing balances of financial items denominated in foreign currency and adapts their translation at the end of the period to a 10% change in foreign currency rates.
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A positive number in the table represents an increase in earnings or in loss and an increase in equity when the dollar grows 10% stronger in comparison to the currency in question, or a decrease in earnings or loss and a decrease in equity when the dollar is weakened by 10% compared to the currency in question. The influence of a 10% increase in the dollar versus the other currencies, before tax influence: NIS Influence As of December 31 2008 2009 Thousands of Dollars Profit or (loss)
(254)
Euro Influence As of December 31 2009 2008 Thousands of Dollars
(240)
773
1,201
Forward Agreements for Foreign Currency Swaps From time to time, the Company examines the need to invest in derivative financial instruments to reduce its exposure to currency risks. It is the Company's policy for the dollar/shekel exchange rate to hedge half of the Company's shekel expenses for a period of up to one year forward. When it holds a derivative financial instrument, the Company is exposed to changes in the fair value of these financial instruments resulting from changes in their market value. In order to reduce its exposure due to the USD/NIS exchange rate, in 2009 the Company conducted several transactions, the purpose of which are protection of some of the Company's NIS salary payments for a period of up to one year from the end of the reported period. The fair value of the forward agreements for foreign currency swaps as of the balance sheet date was established using published future exchange rates and yield curves deriving from published interest rates matching the repayment dates of the contracts denominated in foreign currency. Cash Flow Hedging The following table details the base sums of the transactions and the remaining terms of forward agreements for foreign currency swaps, as they exist as of the balance sheet date:
Average Exchange Rate USD – NIS
Sums of Transactions Fair Value Thousands of Dollars
Cash flow hedging Up to 10 months
3.90-3.92
150,000
4,737
Regarding the Group's accounting policy regarding cash flow hedging, see Note 2. Over the course of the year equity increase by a sum of $3,540 thousand after tax, due to the effectiveness of cash flow hedging as a defense against cash flow risk due to exchange rates. Sensitivity Analysis of Forward Agreements for Foreign Currency Swaps The sensitivity analysis is determined on the basis of exposure to foreign currency exchange rates of derivative and non-derivative financial instruments as of the balance sheet date . The sensitivity analysis was prepared under the assumption that the sum of assets as of the balance sheet date remained unchanged throughout the entire reporting period. For the purpose of reporting on foreign currency rate risk internally for key management personnel, an increase or decrease rate of 10% was used, representing Management's policy regarding reasonable change in foreign currency exchange rates. Assuming that the NIS-Use exchange rates increased/decreased by 10% with all other parameters remaining unchanged, the influence on pre-tax equity would be as follows:
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Equity as of December 31 2009 would increase/decrease respectively by some $15 million (there were no forward agreements for foreign currency swaps as of December 31 2008). f.
Interest Risk The Group is exposed to interest risk as the Company takes loans at variable interest rates. The risk is managed by the Group by maintaining an appropriate ratio between variable interest and fixed interest loans, by making use of interest rate swap agreements. The hedging actions are evaluated regularly in order to adapt them to projections regarding the desired interest rate and hedged risk. An optimal hedging strategy is ensured by adapting the Group's loan mixture and conducting back to back hedging against the payoff tables of existing loans. The Group's exposure to interest rates for financial assets and liabilities is described in the section on liquidity risk management further in this Note. Over the course of the reported year no material change occurred in interest risk exposure factors or in the way the Group manages or measures risk. Interest Rate Swaps Within the framework of interest rate swap agreements, the Group entered into contracts to replace differences between fixed interest rate sums and a variable calculated for agreed listed principal sums. These contracts allow the Group to reduce the risk from variable interest rates to the fair value of an issued debt at fixed interest and exposure of the cash flow of a debt issued at variable interest. The fair value of the interest rate swaps as of the balance sheet date is established by capitalizing future cash flows using curves as of the balance sheet date and the credit risk inherent in the contract as stated below. The average interest rate is based on the balances existing at the end of the year. Cash Flow Hedging The following tables detail the fixed contractual interest rate, unpaid balance and the fair value of the interest rate swap agreements, recognized as cash flow hedging, in existence as of the balance sheet date: Paying Fixed Interest Receiving Fixed Interest
Up to one year Between 1 and 2 years Between 2 and 3 years
Fixed Contractual Interest Rate 2009
2008
Unpaid Balance As of December 31 2009 2008
%
%
Thousands of Dollars
4.105 4.093
4.105 4.093
99,750 21,000 120,750
109,250 25,667 134,917
Fair Value As of December 31 2009 2008 Thousands of Dollars (2,659) (899) (3,558)
(3,229) (890) (4,119)
The interest swap agreements are cleared on a quarterly, semiannual or annual basis according to the payoff table of the loan for which the hedging agreement was made. The Group intends to pay off the differences between variable and fixed interest rates on a net basis. Regarding the Group's accounting policy in the matter of cash flow hedging, see Note 2. Interest Rate Swap Agreements Not Recognized as Hedging for Accounting Purposes In one agreement signed with two banks in Israel, the Libor was fixed for a five-year period, commencing in January 2004 with respect to an opening principal amount of approximately $270 million, at graduated interest rates, which declines in accordance with the loan amortization schedule. The agreement was extended by an additional year, until January 27, 2010. In the second agreement signed with a bank in Israel at a premium, the Libor rate was fixed for five years, starting September 2004, with respect to an opening principal amount of approximately $87 million, at
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graduated interest rates, which declines in accordance with the repayment schedule of the loan. This agreement was concluded September 2009. In two additional agreements recognized for accounting purposes as hedging transactions, executed with banks in Israel, the Libor variable interest rate was exchanged for a maximum fixed interest rate which hedges against a rise in the variable interest rate beyond that rate while establishing a minimum rate, so that should the variable interest rate decline below the minimum level the Company would waive this gain. These transactions were carried out as follows: the first for an opening principal amount of approximately $244 million, gradually declining based on a loan amortization schedule over a two-year period starting January 27, 2006. This transaction was concluded on January 28 2008. The second, in accordance with a hedging policy for five years forward, on the balance of that same loan, the balance of which will stand at an opening principal amount of approximately $183 million, gradually declining based on a loan amortization schedule over a one-year period starting January 27, 2010. In three additional agreements recognized for accounting purposes as hedging transactions, executed with banks in Israel, the Libor variable interest rate was exchanged for a fixed rate. These transactions were carried out as follows: the first with respect to an opening principal amount of approximately $276 million, gradually declining based on the loan amortization schedules. This for periods of between one and two years, starting from the second half of 2010. The fair value of these instruments, not recognized as hedging for accounting purposes, as of December 31 2009 is a $20,412 thousand liability (as of December 31 2008, a $22,073 thousand liability). Interest Rate Swap Agreements Recognized as Cash Flow Hedging for Accounting Purposes In two additional agreements recognized for accounting purposes as hedging transactions, executed with banks in Israel, the Libor variable interest rate was exchanged for a fixed rate. These transactions were carried out as follows: the first with respect to an opening principal amount of approximately $138 million, gradually declining based on a loan amortization schedule over a period of five years and three months starting July 18, 2005; and the second, on an opening principal amount of approximately $40 million, gradually declining based on a loan amortization schedule over a five-and-a-half year period starting October 17, 2005. The fair value of these interest rate swap instruments recognized as cash flow hedging for accounting purposes as of December 31 2009 is a $3,558 thousand liability (as of December 31 2008, a $4,119 thousand liability). Over the course of the year equity increased y $422 thousand after tax, for the effectiveness of cash flow hedging as protection against cash flow risk due to interest rates (in 2008: decrease in equity after tax of $3,486 thousand). Interest Rate Sensitivity Analysis The sensitivity analysis is determined based on the exposure to interest rates of derivative and nonderivative financial instruments as of the balance sheet date. The sensitivity analysis regarding variable interest liabilities was prepared under the assumption that the sum of the liability as of the balance sheet date remained the same throughout the reported year. For the purpose of reporting on interest rate risk internally to key management personnel, use was made of increases and decreases of 75% (in 2008 – increases and decreases of 10%), representing Management's estimates regarding likely possible changes in interest rates. Assuming that interest rates increase/decrease by 75% in 2009 and the remaining parameters remain unchanged, the pre-tax influence was as follows: -
The profit for the year ending December 31 2009 would increase/decrease by $9,381 thousand and $9,879 thousand, respectively.
-
Capital reserves due to interest hedging rates as of December 31 2009 would increase/decrease by $142 thousand and $144 thousand, respectively.
Assuming that interest rates increase/decrease by 10% in 2008 and the remaining parameters remain unchanged, the pre-tax influence was as follows: -
The profit for the year ending December 31 2008 would increase/decrease by $4,302 thousand and $4,244 thousand, respectively. C-88
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g.
Capital reserves due to interest hedging rates as of December 31 2008 would increase/decrease by $1,056 thousand and $1,058 thousand, respectively.
Jet Fuel Price Risk The market risks management committee prescribes the framework for future consumption of jet fuel. The significance of the financial hedge of jet fuel prices is to guarantee the range of purchase prices of jet fuel. In the event of a decrease in jet fuel prices, which is guaranteed beyond the range, then the Company pays the difference. In the event of an increase in jet fuel prices, the Company receives the difference from the guaranteeing company (mainly overseas banks). The goal of the hedge of jet fuel prices is to hedge the Company's exposure to changes in global jet fuel prices. Accordingly, the hedging policy is as follows: hedging amounts of jet fuel up to 24 months forward so that each quarter of the period in question has a minimal hedging rate set from all expected exposure and a maximum hedging rate from all expected consumption in a gradual and descending manner. Accordingly, the maximum hedging rate is 80% and the minimal hedging rate is 20%. The Company is exposed to changes in the fair value of these financial instruments as a result of changes in market prices. As of December 31 2009, the Company entered into several agreements to hedge jet fuel prices, at 43% of the expected consumption for 2010 and 17% of the expected consumption in 2011. No material change occurred over the course of the year in jet fuel price risk exposure factors or in the way the Group manages or measures the risk, this due to fuel consumption rates similar to the comparable period last year. Over the course of the year equity increased y $76,821 thousand after tax, for the effectiveness of cash flow hedging as protection against cash flow risk due to changes in jet fuel prices (in 2008: decrease in equity after tax to the amount of $116,460 thousand). Sensitivity Analysis of Jet Fuel Prices The following sensitivity analysis was established based on the exposure to fuel price risks on the reported date. Use was made of increase and decrease rates of 15%, which represent Management's estimates regarding possible changes in jet fuel prices. If jet fuel prices were 15% higher/lower in 2009 (2008: 15%), the pre-tax influence would be as follows: -
The net profit for the year ended December 31 2009 would be unchanged as all jet fuel hedging transactions open as of December 31 2009 would be recognized as cash flow hedging for accounting purposes (for the year ending December 31 2008: the net profit was higher/lower by $6.2 million and $7.3 million, respectively), as well as:
-
Capital reserves for jet fuel hedging agreements would increase/decrease by $46.6 million as of December 31 2009 (increase/decrease by $21.9 million as of December 31 2008).
Regarding the liquidity risk of the derivative agreements for the reduction of the exposure due to changes in jet fuel prices, see i. below. h.
Credit Risk Management Credit risk refers to the risk that the opposite side fails to meet its contractual obligations and cause a financial loss to the Group. The Company and its subsidiaries have cash, cash equivalents and long and short-term investments deposited mainly with large, highly rated financial institutions. The Company and its subsidiaries do not anticipate any losses resulting from credit risk. Most of the revenues earned by the Company and its subsidiaries are derived from a large number of customers (mainly travel and cargo agents), characterized by their dispersal throughout several countries. Exposure to risk from the extension of credit to customers is limited because of their relatively large C-89
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
number and dispersal, as mentioned above. In Israel, insurance on credit (limited in amount) is granted to travel and cargo agents. Overseas agents are covered by collateral to the extent generally accepted in that country. The Company regularly examines customer compliance with credit terms and includes in its financial statements an appropriate allowance for doubtful debts. The carrying amounts of financial instruments listed in the Financial Statements presented net from devaluation represent the Group's maximum exposure to credit risk, this without taking the value of any security achieved into account. Regarding the aging of delayed financial assets as of the report date the value of which remains unharmed, see Note 8 above. i.
Liquidity Risk Management The ultimate responsibility for managing liquidity risk is borne by the Board of Directors, which establishes an appropriate work plan for the management of liquidity risk in relation to Management's requirements regarding short term, medium term and long term financing and liquidity. The Company manages the liquidity risk by preserving banking means and loan means, by constant supervision of actual and expected cash flows and adjusting vesting characteristics of financial assets and liabilities. See also Note 36 on means of financing. Interest and Liquidity Risk Tables 1.
Financial Liabilities Not Constituting Derivative Financial Instruments The following tables detail the Group's remaining contractual repayment dates for financial liabilities, which do not constitute a derivative financial instrument. These tables were prepared based on the noncapitalized cash flows of the financial liabilities based on the earliest date by which the Group may be required to repay them. The table contains cash flows both for interest and for principal. First Year
Second Year
Third Year Fourth Year Thousands of Dollars
Fifth Year Onward
Total
As of December 31, 2009: Interest instruments Trade payables Trade receivables
(89,405)
(155,294)
(145,248)
(179,718)
(274,500)
(844,165)
(128,970)
-
-
-
-
(128,970)
112,086
-
-
-
-
112,086
As of December 31, 2008: Liabilities due to financing leases Interest instruments
Trade payables Trade receivables
(254)
(254)
(99,493) (99,747)
(95,760) (95,760)
(160,235) (160,235)
(146,324) (146,324)
(395,255) (395,255)
(897,067) (897,321)
(130,893)
-
-
-
-
(130,893)
106,046
-
-
-
-
106,046
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2.
Derivative Financial Instruments The following table details the Group's liquidity analysis regarding its derivative financial instruments. The table was prepared based on cash receipts (payments) for derivative instruments repaid on a net basis and non-discount gross cash receipts/payments for those derivatives requiring net payoffs. When the payment or receipt sum is not fixed, the sum for which disclosure was made is set taking into account projected interest rates as described by the interest receipt curve in effect as on the balance sheet date. Up to 1 Month
As of December 31 2009: Net Cleared Contracts: Foreign currency swap agreements Interest rate swap agreements Agreements to reduce the exposure from changes in fuel prices
As of December 31 2008: Net Cleared Contracts: Interest rate swap agreements Agreements to reduce the exposure from changes in fuel prices
j.
Between 3 Between 1 Months and 4 1-3 and 1 Year years Months Thousands of Dollars
Total
-
1,353
5,723
-
7,076
(1,537)
-
(7,983)
(17,605)
(27,125)
(3,898) (5,435)
(11,801) (10,448)
(39,544) (41,804)
2,684 (14,921)
(52,559) (72,608)
174
(149)
(4,042)
(21,361)
(25,378)
(16,992) (16,818)
(24,899) (25,048)
(82,612) (86,654)
(70,664) (92,025)
(195,167) (220,545)
Financial Instruments not Presented at Fair Value Except for that specified in the following table, the Group believes that the book value of financial assets and liabilities presented at reduced cost in the Financial Statements is nearly identical to their fair value: Booked Value
Fair Value
As of December 31 2009 Thousands of Dollars Long term fixed interest loans (*) (*)
k.
108,541
103,735
The long term fixed interest loans include three loans received in April, May and June 2009 for the purpose of financing the purchase of three new 737-800 planes, see Note 22.d.4 (no fixed interest loans existed as of December 31 2008). The fair value of these loans is based on calculating the current value of cash flows according to an interest rate of 4.76% practiced for similar loans with similar characteristics.
Financial Instruments Presented at Fair Value So as to measure the fair value of its financial instruments, the Group classifies the instruments, measured at fair value in the balance sheet, to one of the following three grades: Level 1: Level 2: Level 3:
Quoted prices (unadjusted) in active markets for identical financial assets and liabilities. Data not quoted prices included in Level 1, observed, directly (meaning prices) or indirectly (data deriving from prices) as regards financial assets and liabilities. Data regarding financial assets and liabilities not based on observed market data.
Classification of financial instruments measured at fair value takes place based on the lowest level in at which material use is made for the purpose of measuring the fair value of the instrument as a whole.
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The following are the specifics of the financial instruments of the group measured at fair value, by level, as of December 31 2009: Total Level 2 Thousands of Dollars Derivative financial instruments intended for hedging items: Jet fuel hedging agreements Forward agreements for the purchase of foreign currency
8,724
8,724
4,737 13,461
4,737 13,461
Financial liabilities at fair value: Total Level 2 Thousands of Dollars Derivative financial instruments intended as hedging instruments measured at fair value: Interest rate swap agreements Jet fuel hedging agreements
Financial liabilities measured at fair value via Statement of Operations: Interest rate swap agreements
3,558 51,808 55,366
3,558 51,808 55,366
20,412 75,778
20,412 75,778
Chief assumptions used to establish the fair value of financial instruments: The fair value of financial assets and liabilities is determined as follows: •
The fair value of financial assets and liabilities with standard conditions traded on active markets is determined based on quoted market prices.
•
The fair value of other financial assets and liabilities (with the exception of derivatives) is determined using accepted pricing methods based on the analysis of capitalized cash flows analyzed through the use of prices from current observed market transactions and quotes from traders in similar instruments.
•
The fair value of derivative financial instruments is calculated using quoted prices. When such prices are not available, use is made of the analysis of capitalized cash flows while using the appropriate yield curve for the lifespan of the instruments for derivatives not consisting of options and for derivatives consisting of options use is made of option pricing models.
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Note 32 -
Statement of Operations Details a.
Operating revenues: Composition:
2009
Passengers (1) Less: discounts
1,477,409 (26,387) 1,451,022 142,738 1,593,760 62,073 1,655,833
Cargo and mail Other
(1)
b.
For the Year Ended December 31 2008 Thousands of Dollars 1,790,769 (36,471) 1,754,298 266,055 2,020,353 75,973 2,096,326
2007
1,574,167 (39,105) 1,535,062 322,555 1,857,617 62,390 1,920,007
The Company recognized $6.7 million in revenues in 2008 for security, fuel and other services surcharges collected from foreign airlines, which up until this date were recognized as a provision, this due to the likelihood that these sums will be required from the foreign airlines. This provision was listed to revenues in 2008, in light of the experience accumulated by the Company in the period of time since they were recognized, which clearly shoes that the likelihood that these sums will be required from the foreign airlines is weak at best.
Operating expenses: Composition:
2009
Fuel Wages and associated costs Airport fees and services Maintenance of aircraft, flight and ground equipment Air navigation and flight communication Depreciation Insurance Aircraft leasing fees Meals and supplies Air-crew expenses Participation in security expenses (see 17.c.2) Cost of duty-free products Other expenses
* Reclassified
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For the Year Ended December 31 2008 Thousands of Dollars
2007
475,654 275,775 159,973 91,246
771,192 303,684 169,808 92,517
532,807 284,087 175,504 90,779
94,739 122,746 7,139 53,641 41,110 42,415 38,398 10,156 31,258 1,444,250
100,822 107,801 7,613 39,340 42,673 47,141 * 43,603 13,158 * 36,977 1,776,329
98,855 109,983 8,421 41,369 41,423 48,166 * 42,224 11,175 * 33,771 1,518,564
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c.
Sales expenses: Composition:
2009
Commissions to agents Wages and associated (including expenses due to employee benefits) Advertising and public relations Others
d.
For the Year Ended December 31 2008 Thousands of Dollars
2007
100,218
137,281
150,599
47,219 11,547 23,978 182,962
53,913 12,730 23,649 227,573
44,562 10,219 21,202 226,582
General and administrative expenses: Composition:
2009
Wages and associated (including expenses due to employee benefits) Professional consultation Telecommunications Office rental and maintenance Insurance Other expenses
e.
57,311 6,313 3,011 10,676 2,047 9,204 88,562
For the Year Ended December 31 2008 Thousands of Dollars
64,856 6,394 2,876 11,083 2,196 9,698 97,103
2007
60,108 6,760 4,969 9,696 1,931 8,227 91,691
Other Expenses (Income), Net 1.
Composition:
2009
Expenses pertaining to retirement plans, net (see Note 23.d and 3 below) Damages received (see 3 below) Cancellation of provision for productivity incentives (see Note 27c) Provision for cargo lawsuit (see Note 27.d.b.1) Gain from disposition of fixed assets (see 4 below) Depreciation of assets (see Notes 16f and 17b) Other
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For the Year Ended December 31 2008 Thousands of Dollars
2007
1,289 -
9,084 (950)
12,094 (14,267)
435 (582) 13,714 171 15,027
(11,400) 15,427 (7,418) (3,768) 975
(245) (5) (2,423)
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
2.
3.
Expenses for employee retirement plans in 2009 mainly include the provision for the retirement plan for 6 employees for which a provision was recorded totaling $0.8 million (in 2008 included the retirement plan for 31 employees for which a $4.6 million provision was made and in 2007 included two retirement plans for two additional groups of 22 and 28 employees for which a provision was made to the amount of $7.3 million). The provisions in question include expenses for the reappraisal of liabilities pertaining to existing retirement programs following the revaluation of Israeli currency vis-à-vis the dollar as well as a capitalization coefficient for the retirement plans. a.
b.
c.
4.
Note 33 -
As a result of the discontinuation of operations of a company related to Boeing, with which the Company had an agreement to operate internet systems on some of the Company's aircraft, the Company discontinued these services. In January 2007, an agreement was signed between the Company and Boeing, whereby the Company received damages from Boeing for its investments in the Internet system, and for the additional damages it sustained due to discontinuation of the system's operation. As a result of these damages, the Company recorded income of $4.4 million in 2007. Additional compensation was received from Boeing to the amount of $950 thousand in 2008. In July 2007, a clarification to an agreement between the Company and Boeing was signed, with respect to an overall accounting between the parties. Within this framework, an agreement was reached that the sum of $6.5 million of the cash flows that were received or are expected to be received by the Company from Boeing constitute damages for the loss of revenues sustained by the Company due to the discontinuation of two joint projects, including the project for broadband internet in planes. In March 2007, the Company signed an agreement with the British Airport Authority, whereby a property that had been used in Heathrow Airport in London was vacated, and accordingly, it received early vacancy fees from the above Airport Authority. As a result of this agreement, the Company recorded net income (after taxes) of $3.4 million.
In 2009, this item mainly constitutes capital gains to the amount of $0.3 million from the sale of two 767-200 engines and in 2008 a capital gains of $4.7 million from the same of the 767-200 aircraft (marked EAB) and in addition a capital gain of $2.3 million from the sale of two engines.
Financing Expenses
2009
Expenses due to long term loans Expenses due to interest hedging agreements Expenses due to commissions and other bank expenses Exchange rate differences due to balances not in the Group's functional currency Others
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For the Year Ended December 31 2008 2007 Thousands of Dollars
21,532 3,797
33,582 19,832
45,100 3,601
4,858
2,818
1,756
110 30,297
4,618 716 61,566
3,625 1,980 56,062
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Note 34 -
Financing Income
2009
Interest income due to short term bank deposits Changes in fair value of CPI-linked options Income from foreign currency hedging agreements Other
Note 35 -
For the Year Ended December 31 2008 2007 Thousands of Dollars 783 -
7,308 -
2,625
8,922
591 3,999
739 16,969
10,826 1,172 4,913 2,558 19,469
Earnings per Share
2009 a.
Base Profit per Share Earnings (loss) per year charged to the shareholders of the parent company (in thousands of dollars)
(76,300)
Weighted average of number of ordinary shares used to compute basic earnings per share (in thousands) b.
(41,907)
38,025
495,719
495,719
476,289
(76,300)
(41,907)
38,025
495,719
495,719
476,289
-
-
19,430
-
-
216
495,719
495,719
495,935
Diluted Profit per Share Earnings (loss) used to calculate diluted earnings per share (in thousands of dollars) Weighted average of number of ordinary shares used to compute basic earnings per share (in thousands) Adjustments: Options (in thousands) Options issued as part of share based payment arrangements (in thousands) Weighted average of number of ordinary shares used to compute diluted earnings per share (in thousands)
c.
For the Year Ended December 31 2008 2007
Instruments that could potentially dilute basic earnings per share in the future, but which were not included in the calculation of the diluted revenue per share as their influence was anti-diluting: For the Year Ended December 31 2008 2007 2009 Number of options issued in the framework of share-based payment arrangements (in thousands)
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29,809
16,946
13,637
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Note 36 -
Means of Finance As of December 31 2009, the Company's credit frameworks amounted to a total of $35 million, similar to the credit frameworks at the Company's disposal on December 31 2008 (some $90 million as of December 31 2007). With the drop in jet fuel prices to beneath the price levels defined in hedging agreements with financial bodies, the Company has been required to provide guarantees in order to ensure its compliance with hedging repayments in accordance with the agreements between the parties. As of December 31 2009, the demand for guarantees amounted to a total of $47 million given using deposits and letter of credit, and in addition the hedging institutions granted unsecured frameworks totaling $29 million. The Company has placed liens on the required amount of assets (aircraft and deposits). An updated aircraft price list was published October 2009. According to this price list, a difference has been created in the balance of loans to collateral ratio as required by the loan agreements with the banks. As of December 31 2009, the Company has reached an arrangement with the banks regarding the collateral gap created.
Note 37 -
Segment-Based Reporting a.
General: The Group has applied IFRS 8, "Operating Segments" (hereinafter "IFRS 8") starting January 1 2009. According to IFRS 8, operational segments are identified based on internal reports on the Group's components, which are reviewed on a regular basis by the Group's chief operational decision maker for the purpose of allocating resources and assessing the performance of the operational segments. On the other hand, the previous standard (IAS 14, "Segment Based Reporting") required that entities recognize two segment arrays (business and geographical), based on the risk and yield method, with the internal financial reporting system for the entity's key administrative personnel serving only as an starting point for the recognition of the above segments. As a result of the adoption of the new standard, the Group has recognized reportable segments different from those presented in earlier reporting periods. Prior to the adoption of the new standard, segment-based information reported externally was analyzed based on flight routes, aviation rights and global representation. Accordingly, the Company reported geographical segments in a primary reporting format, which included the following geographical areas: North America, Europe, Far East and Central Asia and the rest of the world. At the same time, the reports are conveyed to the Group's chief operational decision maker, for the purpose of allocating resources and assessing the performance of the operational segments based on the difference between revenues from passenger aircraft, cargo aircraft, aircraft leasing (mainly to subsidiary Sun D'Or) and other revenues. In light of the above, the following are the Company's reported operating segments in accordance with IFRS 8: Segment A – passenger aircraft activity. Segment B – cargo aircraft activity. Passenger aircraft activity includes revenues (without deducting discounts) from the transport of passengers including baggage, transporting freight in the belly of passenger aircraft, mail transport and the contribution from the sale of duty free products. Cargo aircraft activity includes revenues from airborne cargo shipping fees. Other Company activities include revenues from the leasing of aircraft to subsidiary Sun D'Or (which are written off in the "Adjustments to Consolidated" column), revenues from maintenance services provided to other airlines as well as a broad variety of services and revenues such as equipment leasing, frequent flier membership fees, loading and unloading services and more. The Company's chief operational decision maker does not receive reports on segment asset measurement and therefore, in accordance with the revision to IFRS 8, this information is not included in the segment reporting. Information referring to these segments is reported below. Sums reported for previous reporting periods were restated according to the new segment reporting base.
b.
Analysis of revenues and results according to operating segments: Segment-based earnings represent the contribution made by each segment. Each segment's contribution is determined as follows: revenues created from operating segments less variable expenses involved in the operation of passenger airplane and cargo airplane flights, which include, inter alia, fuel expenses (not
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including fair value changes of jet fuel hedging agreements); airport fees and taxes, variable maintenance costs, air navigation and communication, passenger food and supplies, aircraft leasing fees, discounts and commissions granted passengers or paid to travel agents, air crew expenses including salaries and variable security costs. Unassigned costs primarily include depreciation costs, salary costs (with the exception of air crew costs), changes in the fair value of hedging transactions not recognized for accounting purposes and other fixed costs. Passenger Aircraft Revenues Revenues from outside customers Inter-segment revenues Adjustments to consolidated Total segment revenues Segment results
For the Year Ended December 31 2009 Cargo AdjustAircraft Others ments Thousands of Dollars
Total
1,489,496 1,489,496
58,317 58,317
37,874 68,051 105,925
(68,051) 70,146 2,095
1,585,687 70,146 1,655,833
335,581
(2,014)
41,294
-
374,861
Unassigned expenses
(449,829)
Operational loss
(74,968)
Financing expenses Financing revenues The Company's share of the profits of subsidiaries, net of tax Loss before taxes on income Tax benefit Yearly loss
(30,297) 3,999 442 (100,824) 24,524 (76,300) For the Year Ended December 31 2008 * Passenger Cargo AdjustAircraft Aircraft Others ments Thousands of Dollars
Revenues Revenues from outside customers Inter-segment revenues Adjustments to consolidated Total segment revenues Segment results
Total
1,831,961 1,831,961
139,500 139,500
51,100 76,400 127,500
(76,400) 73,765 (2,635)
2,022,561 73,765 2,096,326
436,258
8,662
57,676
-
502,596
Unassigned expenses
(508,250)
Operational loss
(5,654)
Financing expenses Financing revenues The Company's share of the profits of subsidiaries, net of tax Loss before taxes on income Tax benefit Yearly loss
(61,566) 16,969 543 (49,708) 7,801 (41,907)
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Passenger Aircraft Revenues Revenues from outside customers Inter-segment revenues Adjustments to consolidated Total segment revenues Segment results
For the Year Ended December 31 2007 * Cargo AdjustAircraft Others ments Thousands of Dollars
Total
1,636,378 1,636,378
210,290 210,290
41,134 45,570 86,704
(45,570) 32,205 (13,365)
1,887,802 32,205 1,920,007
435,364
7,147
46,044
-
488,555
Unassigned expenses
(402,962)
Operational profit
85,593
Financing expenses Financing revenues The Company's share of the profits of subsidiaries, net of tax Profit before taxes on income Income Tax Yearly profit
(56,062) 19,469 332 49,332 (11,307) 38,025
* Retroactive implementation of changes in accounting policy, see Note 3d.
Presentation by Geographical Segments
North America 2009: Revenues Segment revenues Non-segment revenues
547,639
Far East & Central Other Asia Europe Countries In Thousands of Dollars 797,327
230,468
38,334
1,613,768 42,065 1,655,833
Total consolidated revenues
North America 2008 *: Revenues Segment revenues Non-segment revenues
Total
712,029
Far East & Central Other Asia Europe Countries In Thousands of Dollars 995,984
296,591
46,650
Total
2,051,254 45,072 2,096,326
Total consolidated revenues
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North America 2007 *: Revenues Segment revenues Non-segment revenues
670,129
Far East & Central Other Asia Europe Countries In Thousands of Dollars 816,625
354,921
41,786
Total
1,883,461 36,546 1,920,007
Total consolidated revenues * Retroactive implementation of changes in accounting policy, see Note 3d. Note 38 -
Agreements with Related and Interested Parties a.
General The Company's parent company is K'nafaim Holdings LTD., which is controlled by the Borovich family.
b.
The Government of Israel and Government Institutions As of December 31, 2009, the Government owns 1.1% of the Company’s shares, and is no longer an interested party in the Company, although until June 5, 2007, the Israeli Government was an interested party in the Company. The information included in this note relating to transactions that were executed between the Group and the Israeli Government and government institutions are only for the period from January 1, 2007 to June 5, 2007 (hereinafter: "the relevant period in 2007"). During the course of its business, the Company carries passengers and cargo for the State of Israel and its many agencies, including government ministries, companies that it owns, institutions and authorities. These transactions are carried out during the ordinary course of business activities under commercial terms, with each individual transaction, on its own, not being material from the Company’s point of view. Concurrently, over the course of its business, the Company acquires services from the State of Israel and its agencies, including government ministries, companies that it owns, institutions, authorities and, in particular, services at BGA, and the payment of usage fees for a complex on which Company installations are located and where it performs aircraft repair and maintenance work, etc. The Company is also provided services by government corporations in the ordinary course of business (such as electricity, telecom, etc). The following is a general description of the transactions, their characteristics and scopes: operating revenues includes revenues from sale of tickets to various government entities during 2007 totaled approximately $12 million. Revenues from carrying cargo for various government entities totaled approximately $13.6 million. Revenues from rendering maintenance services in 2007 totaled approximately $2.4 million. Operating expenses during the relevant period in 2007 included those incurred by purchasing services from various government entities totaling approximately $50.2 million, consolidated. Most of these expenses are due to the IAA (primarily various fees and space rentals), the government’s participation in security expenses and engine maintenance and repairs carried out by a government corporation. Operating expenses also include those incurred with related parties, as well as the receipt of electricity, telecom, infrastructure for fuel delivery and ground transportation through government corporations. Financing expenses during the relevant period in 2007 include net financing expenses to a bank in which the Government of Israel is an interested party, totaling $0.9 million.
c.
K’nafaim Holdings Ltd. and interested parties therein In June 2004, K’nafaim Holdings Ltd ("K'nafaim") became an interested party in the Company and in January 2005 it became the controlling party therein. As of December 31, 2009, K'nafaim holds approximately 39.3% of the Company's shares. The following is a general description of the transactions, their characteristics and scopes: no revenues from members of the K'nafaim Group and its controlling parties were included in the framework of
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operating revenues in 2009 and 2008. Revenues from companies in the K’nafaim Group from the shipping of cargo to the amount of $3.7 million were listed in 2007. Within the framework of operating expenses, transactions with the K'nafaim Group and its controlling parties to the amount of $76 thousand were included in 2009. Expenses totaling $156 million were included in 2008 and $40 million were included in 2007. General and administrative expenses include $0.1 million for management fees paid to K’nafaim and directors’ insurance in 2009 (2008 and 2007: expenses due to management fees to K'nafaim and director insurance to the amount of $0.5 million and $0.9 million, respectively). As for the management agreement and the collective insurance agreement – see j below. Regarding the group insurance agreement, see m. below. Other than the items detailed above, the other transactions with the K’nafaim Group and its controlling parties are negligible and they relate to lounge services for hosting airline passengers of foreign airlines, transportation to BGN, magazines for prestigious sections and entertainment brochures on flights, meals served in Terminal 3 for passengers whose flights have been delayed, children's accessories, screen and online advertising, flight quality control and assistance to the call center. d.
Transactions with additional related parties: Regarding transactions with related parties and other interested parties included as part of operating revenues and sales expense, see v. below. A total of $2.7 million are included in the framework of administrative and general expenses in 2009 (2008: a total of $1.4 million, 2007: a total of $2.8 million) for director salaries and benefits for employed interested parties.
e.
Issue of special share – see Note 30.f
f.
State of Israel guarantees provided to fulfill Company obligations - see Note 23.d.1.
g.
Financing the acquisition of aircraft by banks in which the State of Israel owns more than 25% - see Note 40.
h.
Commitments with the IAA – see Note 29.d.3
i.
Arrangement with the State of Israel to assure the raising of capital - see Note 23.b.3.b.
j.
Management fees and director remuneration: The Company’s General Meeting of Shareholders, which convened on May 10, 2005, approved a management agreement with the controlling party in the Company according to which the controlling party, through, Prof. Israel (Izzy) Borovitch and a personal assistant would render services as active Chairman of the Board to the Company, for which the controlling party would receive monthly management fees of $60 thousand, in effect from January 9, 2005, over a three-year period. The General Meeting extended the above agreement, under identical terms, for six additional months ending July 9 2008. In addition, the Chairman of the Board and his family members will be entitled to receive free or discounted flight tickets. On August 6 2008, the Company's Board of Directors decided to increase the remuneration of outside directors as follows: meeting participation remuneration and yearly remuneration to external directors serving the Company shall be paid according to the established sum for a company the Company's grade (Grade D), in the framework of the amendment to the Companies Regulations (Rules Regarding Remuneration and Expenses for Outside Directors) 2000, published March 6 2008 ("the Remuneration Regulations"). The increase in remuneration sums begins April 1 2008. The fixed sum in question (as increased in the amendment to the remuneration regulations) equals NIS 59,100 as of this decision as yearly remuneration and NIS 2,200 as remuneration for meeting participation. Note also that as of this date the external directors were entitled to meeting participation remuneration and yearly remuneration according to the sum set in the Remuneration Regulations prior to the amendment
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On October 2, 2008, the Chairman of the Company's Board of Directors, Dr. Israel (Izzy) Borovitch announced that he would be resigning his position as Chairman of the Board, starting November 30 2008 (Prof. Borovitch will continue to serve on the Board of Directors). The Company also reported that the following had been decided in the meeting of the Board of Directors held on that date: a. b. c.
To appoint Mr. Amnon Lipkin-Shahak, a Company director, to the post of Temporary Chairman of the Board starting December 1 2008 until a permanent Chairman is appointed; To appoint Mr. Yehuda (Yudi) Levi, a Company director, to the post of Vice Chairman of the Company's Board of Directors (in addition to Ms. Tamar Mozes Borovitz, serving as Vice Chairperson); To act to appoint Mr. Amikam Cohen as a director on the Board.
On November 19 2008 the Company shareholders' general meeting confirmed the appointment of Prof. Yehoshua (Shuki) Shemer as an outside director. On December 30 2008 the Company's General Meeting decided: a.
b. c.
To approve for the retiring Chairman of the Board, Prof. Israel (Izzy) Borovitch, after his departure, the following rights: (a) one free flight ticket, once per year, for Mr. Borovitch and his immediate family (wife and children up to the age of 21) as well as the right to transport personal baggage; (b) an additional three flight tickets per year, at a maximum discount (90%) for Mr. Borovitch and his immediate family; (c) ticket per year at a discount of 80% for Mr. Borovitch's children over the age of 21; (d) Mr. Borovitch,s rights and those of his immediate family to free and/or discounted flight tickets and cargo shipping shall be subject to IATA regulations and Company procedures; (e) in the event that service fees are attached for free or discounted tickets or cargo shipping granted to Company employees – these shall apply to the flight tickets mentioned in Sections a-b above; (f) Mr. Borovitch's rights and those of his immediate family to reservation arrangements and seating shall be in accordance with Company procedure as regards retiring employees of similar rank and seniority; (g) the Company shall bear no expenses (tax, surcharges etc.) regarding the issue of the flight tickets and/or the flight. It is hereby made clear that there shall be no duplicity of benefits between the entitlement denoted in this decision and the entitlement to flight tickets as director (so long as he continues to serve on the Company's Board of Directors). To ratify the appointment of Mr. Amikam Cohen to the Company's Board of Directors. As a reminder, on January 21 2009 the Company's Board of Directors decided to appoint Mr. Amikam Cohen Company Chairman starting February 1 2009. To approve a monthly salary payment to Mr. Amnon Lipkin-Shahak, as a result of his tenure as Temporary Chairman of the Company's Board starting December 1 2008, to the amount of NIS 60,000 per month (gross), this in lieu of the "participation remuneration" and the "yearly remuneration" to which he is entitled as well the right to an upgrade to the highest business class existing on a flight, on the basis of available seats at the airport, for his flights, this in addition to flight privileges granted as Company Director. These rights were granted for the duration of his tenure as Chairman of the Board.
On January 21 2009 the Company's Board of Directors decided to appoint Mr. Amikam Cohen as Chairman of the Company's Board of Directors, starting February 21 2009 In a special General Meeting of the Company's shareholders held on March 4 2009, the following was decided: To increase the financial remuneration to sitting directors and/or directors serving from time to time at the Company, with the exception of external directors, all for the purpose of the execution of their duties as Company directors and all actions deriving from this position, as follows: a.
Remuneration for participation in meetings of the Company's Board of Directors and/or any of its committee at the fixed sum appearing in the third addendum to the Companies Regulations (Rules Regarding Remuneration and Expenses for external Directors) 2000 (hereinafter: "the Remuneration Regulations"), in accordance with the Company's grade in accordance with the first addendum to the Remuneration Regulations, as determined from time to time. The remuneration for participation in meetings via telecommunications shall be 60% of the remuneration for participation in the meeting
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b.
c.
d.
and the remuneration for a decision passed without actually convening shall be 50% of the remuneration for participating in the meeting. Yearly remuneration is at the fixed sum appearing in the second addendum to the Remuneration Regulations, in accordance with the Company's grade according to the first addendum to the Remuneration Regulations, as shall be determined from time to time. To approve remuneration for Ms. Sophia Kimmerling, considered a controlling party at the Company, for her service as a director at Sun D'Or International Airlines Ltd., a fully owned Company subsidiary, as follows: For participation in meetings of the Sun D'Or Board of Directors and/or of any of its committees at the fixed sum as appears in the third addendum to the Remuneration Regulations, in accordance with Sun D'Or's grade according to the first addendum to the Remuneration Regulations, as determined from time to time. Remuneration for participation in meetings via telecommunications shall be 60% of the remuneration for participation in the meeting and the remuneration for a decision passed without actually convening shall be 50% of the remuneration for participating in the meeting. Yearly remuneration is at the fixed sum appearing in the second addendum to the Remuneration Regulations, in accordance with Sun D'Or's grade according to the first addendum to the Remuneration Regulations, as determined from time to time. Ms. Kimmerling and her spouse shall be entitled to flight tickets on Sun D'Or flights – one ticket per year free of charge and three tickets per year at 10% of the price of a ticket sold online. To ratify the employment of Nimrod Borovitz, CPA, son of Mr. David Borovitz (husband of Mrs. Tamar Moses Borovitz) and nephew of Prof. Israel (Izzy) Borovitch, a controlling party at the Company, as manager of a strategic partnership project at the Company in return for a gross monthly salary of NIS 25,000 and associated benefits, as specified in the employment report attached to the Company's January 22, 2009 immediate report. To approve the appointment of Ms. Yodfat Har'el-Gross to the Company's Board of Directors for a term of service to conclude at the Company's next annual General Meeting. In light of the approval of the monetary remuneration to Company directors detailed above, Ms. Har'el-Gross is entitled to the remuneration in question upon her appointment as director in the Company. On April 30 2009 the Audit Committee and the Company's Board of Directors decided to approve the Company's entry into an agreement with the Chairman of the Board - Mr. Amikam Cohen (hereinafter – "the Chairman of the Board") for the provision of Chairman services retroactively starting February 1 2009 (hereinafter – "the Service Agreement"). The Chairman of the Board shall provide the Company with active Chairman services as expected in publicly-owned companies in the field of activity of the Company and of its subsidiaries (hereinafter – "the Services"). In return for the services, the Chairman shall be entitled to the following: 1.
A monthly salary of NIS 90,000 plus VAT linked to the CPI (hereinafter – "the Remuneration");
2.
4,650,000 non-tradable options exercisable as 4,650,000 regular NIS 1 par value shares. The option plan and the service agreement were ratified by the Company's General Meeting on June 24 2009. For details regarding this option plan, see Note 30.i.6.
3.
Benefits pertaining to the receipt of flight tickets from the Company;
4.
Reasonable expense refunds for travel, hosting and mobile telephone expenses made by the Chairman in the context of the services subject to the law and in accordance with Company procedure.
The remuneration and the remaining benefits and payments detailed above constitute full remuneration to the Chairman for the provision of services, including for his services as Company director, and with the exception of these he shall be entitled to no additional benefit and/or wage and/or remuneration from the Company of any form, including directors' salary (participation remuneration and yearly remuneration) for the services of the Chairman of the Board as a Company director. k.
The departing CEO: 1.
On January 22 2009 the Company's CEO, Mr. Chaim Romano, acting on his own initiative, informed the Company's Board of Directors that he would be waiving 15% of the total yearly salary he was entitled to receive from the Company for 2009 (with the exception of provisions and social benefits). This waiver was taken as a result of the global economic crisis and market conditions. C-103
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2.
l.
On September 6 2009, the Company announced that it and its CEO, Mr. Chaim Romano, had reached an agreement according to which Romano's tenure shall end based on 18 month advance notice delivered by the Company in accordance with the personal employment agreement between the Company and the CEO (hereinafter: "the Employment Agreement"). The notice period, according to the employment agreement, is 18 months, during which employer-employee relations between the parties will remain in effect (without detracting from the Company's right, based on the employment agreement, to shorten this period at any time, while repaying its balance). The Company's Audit Committee and Board of Directors decided that the non-compete period, which according to the terms of the agreement is 6 months from the completion of work, shall be extended by an additional 12 months, in return for ad hoc payment of 750,000 NIS. Note that in accordance with the terms of the agreement, the CEO is entitled to a retirement bonus equal to one month pay for each year of work at the Company (some five years), in addition to releasing retirement and executive insurance sums at his disposal, as well as the payment of a resultdependent bonus, as established in the employment contract, for the 6 month period from the notice period. In addition, the Audit Committee and the Board of Directors decided that the CEO shall be entitled to flight ticket rights, as is general Company practice for a departing executive of the CEO's rank. Additional costs resulting from the conclusion of the employment of the CEO (in addition to the sum of 750 thousand NIS for the non-compete grant, as described above), amounted to 3.4 million NIS in 2009.
Agreement with the incoming Company CEO: On October 21 2009, the Company's Board of Directors decided to appoint Mr. Elyezer Shkedy as the Company's new CEO. Mr. Shkedy entered his new position on January 1 2010, at the end of a 2-month preparation and training period with the Company's CEO, Mr. Chaim Romano, who concluded his service as acting CEO on December 31 2009. On January 6 the Company's Audit Committee and Board of Directors approved the terms of Mr. Elyezer Shkedy's employment as Company CEO ("the CEO"), the key points of which are as follows: Mr. Shkedy shall serve as the Company's CEO starting January 1 2010, and shall be subject to the Company's Board of Directors. The CEO's monthly salary shall gross 115,000 NIS, linked to the Consumer Price Index on the basis of the known CPI, with the base index being the CPI published December 15 2009. The CEO shall be entitled to a bonus of a sum composed of the following three components: "Profit bonus" - a sum equal 2.0% of the Company's yearly pre-tax profit appearing in the Company's consolidated and audited yearly Financial Statements "(the Yearly Statements") this for each calendar year during the CEO's tenure as Company CEO ("the Tenure"), starting 2010, when such a profit was achieved and for any portion of such a calendar year; as well as – "One-time bonus" - a one-time bonus to the amount of two million NIS for the first calendar year over the course of the tenure in which the Company achieved a pre-tax yearly profit, this in accordance with the yearly statements for the year in question ("the base year") and (b) an additional (and final) one-time sum of one million NIS for an additional calendar year over the course of the tenure, in which the Company achieved a pre-tax yearly profit, this in accordance with the yearly statements for the year in question; as well as "A result improvement bonus" - a sum of 2.0% of the aggregate improvement to the Company's yearly pre-tax profit, starting from the base year until the end of the tenure, according to the yearly statements. This bonus shall be paid the CEO for the base year and for each subsequent calendar year in which an improvement occurred (if any) in the yearly profit in question compared to the previous peak year in the tenure, with "previous peak year" in this regard being a previous calendar year, starting from the base year, in which the Company's highest pre-tax profit was achieved to date for which the bonus in question is paid. Eligibility for this bonus shall apply only if (a) a pre-tax yearly profit was achieved for the calendar years during the tenure in accordance with the relevant yearly reports; as well as - (b) under the condition that the profit in question is larger than the pre-tax profit achieved in the previous peak year, and - (c) due to the difference (delta) only between the two profit sums in question (with the exception of for the base year in which the bonus in question is calculated for the entire pre-tax yearly profit for that year). In addition, the Company granted the CEO 9,914,382 options exercisable as 9,914,382 regular 1.00 NIS par value Company shares (for details regarding the options, see Note 30.i.7). The CEO shall be entitled to social benefits such as executive insurance provisions or pension funds, loss of work ability and education fund, as are commonly granted Company senior executives. In addition, the CEO shall be entitled to 30 paid sick days per year (which may be accumulated to up to 120 days, but not redeemed), 16 recovery days per year, as well as 25 vacation days per year (which may be accumulated, C-104
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unlimited in amount and redeemable). In addition, the CEO shall be entitled to reasonable personal and hospitality expenses, spent as part of his duties and in return for appropriate receipts/ invoices Upon the discontinuation of the CEO's employment, for any reason, with the exception of criminal circumstances, the CEO shall be entitled to, in addition to the payments specified above, a retirement bonus to the amount of a single monthly salary multiplied by the amount of years he worked at the company (not including the advance notice period), including for a portion of a work year, this according to the CEO's last pay slip. This agreement includes confidentiality and non-compete clauses, according to generally accepted practice, for a 12 month period from the actual discontinuation of work. The Company shall provide the CEO with a mobile phone, a telephone line and home fax machine and shall bear full maintenance and usage costs as well as payments for calls. The Company shall provide the CEO and his household with a Licensing Group 6 vehicle. The Company shall bear all costs involved in the use and maintenance of the vehicle, according to Company practice and its procedures as updated from time to time. The Company shall pay the tax payments borne by the CEO for the vehicle and telephone at his disposal. The CEO shall be entitled to flight tickets for himself and for his family according to Company practice regarding anyone who serves as CEO, this according to existing Company procedures, updated from time to time. As part of the negotiations with the CEO regarding the terms of his employment at the Company and at the CEO's request, the Board of Directors approved the establishment of a CEO fund for the remuneration of excelling employees, to the amount of 2 million NIS. This fund shall be established after the Company's financial results show an improvement of over 50% over 2009. Use of this fund shall be at the discretion of the CEO to provide incentives to excelling Company employees who are not Management members. m.
Directors’ and officers’ insurance and indemnification: Group directors and executives are insured via director and executive insurance in the framework of insurance coverage prepared by K'nafaim and in accordance with the agreement with K'nafaim. The Company has committed to indemnify Company executives as regards activities pertaining to the Company's privatization as well as regards the execution of actions and/or fulfillment of duties in accordance with the Securities Law, 1968, pertaining to the Company, so long as options issued as part of the May 2003 Prospectus are still outstanding, including: issuing reports, announcements and approvals deriving from the Securities Law. The total extent of indemnification for all Company executives in accordance with this agreement shall be no greater than $100 million U.S. In addition, the General Meeting of Shareholders of the Company, held on May 10, 2005 ratified the following decisions: a.
b.
The advance commitment to indemnify executives (no exemption to executives was approved). The amount of the indemnification will according to this decision shall be 25% of the Company’s shareholders’ equity according to its December 31, 2004 Financial Statements or 25% of its shareholders’ equity reported in the last financial statements prior to the actual payment of the indemnification, whichever is lower. Framework agreements for ongoing executive insurance and for run-off executive insurance. The annual premium that will be paid by the Company for self-insurance plus the premiums for run-off insurance will not exceed $450 thousand a year. In October 2006 the executive insurance prepared by K'nafaim was renewed for an additional 18 month period, as detailed in the Company's October 4 2006 immediate report. On April 1 2008 the insurance was renewed for an additional 18 months.
On December 9 2009 the insurance was renewed for a period of 18 months, to March 31 2011. In accordance with the terms of the framework agreement, the policy is limited to $100 million as well as an added 20% from the above limit for legal defense expenses in Israel. The Company's share of the insurance fees is a sum of $108,000 a year ( relative to an 18 month period $163,000), which constitutes 65% of the insurance fees for the group policy. The deductible is between $15 and $75 thousand (according to the type and nature of the suit). The Audit Committee and Company Board of Directors approved the commitment in accordance with Regulation 1(3) of the Companies Regulations (Relief in Transactions with Interested Parties), 2000 and determined that the commitment matches the terms set for the framework transaction, approved by the Company's shareholder meeting dated May 10 2005.
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n.
Aviation insurance agreements: From time to time the Company enters into aviation insurance agreements with insurance companies which include, among other things, "aircraft body all risks" insurance and "liability" insurance ("the Company's Insurance Policy"). In July 2006 the Company entered into a three-year agreement with the controlling shareholder, K'nafaim Holdings ("K'nafaim") according to which the Company and K'nafaim will jointly approach the Company's insurers with a request to add aviation insurance coverage to K'nafaim within the framework of the Company's insurance policy ("the Original Agreement"). On November 24 2009 and on November 26 2009 the Company's Audit Committee and Board of Directors (respectively) ratified the extension of the original agreement for a period of an additional five years, in which the Company will continue to include insurance coverage to K'nafaim as part of the Company's aviation insurance policy under conditions similar to those in the original agreement, as detailed below. The insurance K'nafaim wishes to include as part of the Company's insurance is "contingency" insurance for aircraft owned by the K'nafaim group leased to various airlines. This contingent insurance shall only be activated if the aircraft lessees renege on their commitment to purchase insurance for all risks and liabilities or in the event that the lessees' insurers abstain from paying or claim that they have no obligation to pay as well as coverage for ground risks for aircraft of the K'nafaim group. This coverage shall be integrated into the "aircraft body all risks and liabilities" policy prepared from time to time by the Company. In return for the above insurance coverage, K'nafaim shall continue to pay the full premiums required for the added insurance, subject to changes that may apply to insurance fees from time to time in accordance with the extant of the insurance's coverage. In addition, K'nafaim shall continue to pay the Company a sum of 15% from the added premium in question as administrative fees, according to general practice in the insurance industry, and shall bear the added insurance fees in the event of a security incident pertaining to the K'nafaim added insurance. Approval for the transaction was given for a period of up to five years, with the Company reserving the right to cancel the agreement in the event of certain incidents set in the agreement. In addition, each party shall reserve the right to conclude the agreement for any reason and at its sole discretion, after providing the other party at least 60 days notice. The Audit Committee and the Company's Board of Directors have approved the agreement in question and have determined that there is no material difference between its terms regarding the Company and those regarding K'nafaim, taking into account their relative portions of the shared transaction. Therefore, and in accordance with Regulation 1(4) of the Companies Regulations (Relief in Transactions with Interested Parties), 2000, the Company's entry into the agreement does not required the ratification of the General Meeting with a special majority as per Section 275(a)(3) of the Companies Law, 1999. The K'nafaim added insurance is of an immaterial extant in comparison to the extant of the aviation insurance of the Company to which it will be attached and the insurance coverage does not harm the Company. The added premium for the K'nafaim aviation insurance, paid be K'nafaim, was priced separately by the insurers and matches the relative value of this added insurance compared to the total value of the insurance to which it is attached. Nothing in the added insurance from K'nafaim shall cause the Company to pay higher premiums not covered in full by K'nafaim. In addition, K'nafaim shall continue to make additional payments to the amount of 15% of the insurance fees for the inclusion of the insurance in question, as set in the past in accordance with the recommendation of an agreed-upon outside insurance consultant, as payment acceptable in the aviation industry as administrative fees. In light of the above, the terms of the policy as regards the Company are not materially different from its terms regarding the controlling shareholder taking their relative portion into account.
o.
Fees of officers who are not directors or CEO: A Special Meeting of Shareholders of the Company, taking place on July 14, 2005, resolved to add Regulation 158a to the Company’s bylaws. The added regulation states, among other things, that the fees of officers (not including directors who are not Company employees, other than the CEO, a controlling party, a relative of a controlling party or an interested party in a controlling party), when the issue does not entail an irregular transaction, will be approved by the Human Resources and Appointments Committee of the Board of Directors.
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p.
In a special General Meeting of the Company's shareholders held on June 24 2009, the following was decided: (1) To approve the Company's entry into a service agreement with the Chairman of the Company's Board of Directors – Mr. Amikam Cohen, as per Note 38j above. (2) To ratify the appointment of Mr. Pinchas Ginsburg as Director on the Company's Board of Directors for tenure to conclude with the Company’s next annual General Meeting. (3) To ratify Amendment 110 to the Company's Articles, regarding the increase of the maximum number of directors in the Company's Board of Directors. (4) To ratify the appointment of Mr. Shlomo Hannael as Director on the Company's Board of Directors for tenure to conclude with the Company’s next annual General Meeting.
q.
On September 18 the Company entered into an agreement with R&M (hereinafter "the Service Provider") to provide clandestine inspections and quality control of the Company's website in return for a monthly sum of 2,700 NIS. Each party may bring the agreement to a conclusion by providing notice to the other. The commitment in question was approved by the Company's Board of Directors as a non-exceptional agreement in which a Company's controlling shareholder has personal interest, as the service provider is a company owned by the son-in-law of Mr. David Borowitz, a Company controlling shareholder and spouse of Mrs. Tamar Moses-Borowitz, Deputy Chairperson of the Board of Directors and a Company controlling shareholder. The commitment was approved, among other reasons, as the service provider has a great deal of experience in the field of clandestine inspection and is familiar with the Company, its business and its work model in light of existing commitments; the agreement was made over the Company's regular course of business and under market conditions and was preferred over other proposals studied by the Company, both as regards the level of services offered and price.
r.
Negligible Transaction On November 26 2009, the Company Board of Directors decided to adopt rules and guidelines for the classification of a transaction made by the company or one of its affiliates with an interested party (hereinafter: "an Interested Party Transaction") as a negligible transaction as defined in Regulation 64(3)(d)(a) of the Securities Regulations (Preparation of Yearly Financial Statements), 1993 or as defined in Regulation 41(a)(6)(a) of the Securities Regulations (Preparing Yearly Financial Statements) 2010 which replaced the regulations in question starting January 6 2010. These rules and guidelines are also used to determine the extant of disclosure in the periodic report and in the prospectus (including in shelf proposal reports) as regards transactions with controlling shareholders or in which controlling shareholders have personal interest as defined in Regulation 22 of the Securities Regulations (Periodic and Immediate Reports), 1970 (hereinafter: "the Reporting Regulations) and Regulation 54 of the Securities Regulations (Prospectus Details and Prospectus Draft – Structure and Form), 1969, as well as to determine the need to submit an immediate report for such a transaction, as set in Regulation 37(a)(6) of the Reporting Regulations. The Company's Board of Directors has determined that in the absence of special qualitative considerations deriving from the circumstances of the issue, an Interested Party Transaction shall be considered a "negligible transaction" if: (a) The transaction takes place over the Company's normal course of business and (b) the transaction is under market conditions and its terms are acceptable to the relevant market; and (c) the relevant criteria for the transaction, one or more, whether it is a single commitment or a series of commitments on the same issue over the course of the same year, is at an extant of no greater than 200,000 NIS in any interested party transaction the classification of which has been considered as a "negligible transaction" on the basis of the Company's latest audited consolidated yearly financial statements. Relevant criteria for the determination of a transaction are, for instance: (1) total sales the subject of the Interested Party Transaction; or - (2) the total cost of the sales the subject of the Interested Party Transaction; or – (3) the extant of assets the subject of the Interested Party Transaction; or – (4) the extant of liabilities the subject of the Interested Party Transaction; or – (5) the extant of the expense or yield the subject of the Interested Party Transaction. In this regard - in the event the Company does not have full rights to a certain transaction, the transaction shall be determined based on the Company's relative portion of the transaction. In cases in which, according to the Company's judgment, all of the aforementioned criteria are irrelevant for the determination of the negligibility of the Interested Party Transaction, the transaction shall be considered negligible, in accordance with a different relevant criterion, determined by the Company, so long as the relevant criterion used for this transaction shall be no greater than 200,000 NIS.
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At the same time, examination of the quantitative considerations of an interested party transaction may lead to the contradiction of the aforementioned presumption of the transaction's negligibility. Thus, for instance, and merely as an example, an Interested Party Transaction shall not generally be considered negligible if it is considered a significant event by Company Management and if it serves as basis for administrative decisions, or if interested parties are expected to receive benefits that need to be reported to the public as part of the transaction. The transaction's negligibility shall be determined on a yearly basis for the purpose of reporting within the framework of the periodic report, the financial statements and the prospectus (including a shelf proposal report), while adding together all of the Company's transactions of the sort with the interested party in question or with corporations under the control of the interested party. To be clear – separate transactions carried out on a regular and repeating basis during a certain period with no mutual dependence or for which no additional obligations exist which are not relevant to entering into the transaction as regards the same interested party, shall be examined on a yearly basis for the purpose of reporting pursuant to the periodic report , the financial statements and the prospectus (including a shelf proposal report), and on the basis of the specific transaction for the purpose of immediate reporting. s.
Remuneration of Key Administrative Personnel
2009
Short term benefits Post-employment benefits Share-based payment
t.
For the Year Ended December 31 2008 2007 Thousands of Dollars
4,516 1,460 515 6,491
4,822 1,456 837 7,115
Benefits Granted Interested Parties 2009
Salaries and social benefits to interested parties employed by the Company Number of people to whom the benefit refers Chairman services and commissions fees to interested parties employed by the Company Number of people to whom the benefit refers Remuneration for directors not employed by the Company Number of people to whom the benefit refers u.
6,250 265 1,129 7,644
2008 Thousands of Dollars
2007
15
16
-
1 464
1 376
720
1 333
1 87
1 49
13
10
10
Balances with Interested Parties and Related Parties For December 31 2008 2009 Thousands of Dollars Interested/Other Related Parties In the framework of current assets Trade Receivables Related party – subsidiary (in dollars) Related party and interested party (in dollars)
Total highest debit balance during the balance year Receivables Related Party
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2,417 71 2,488
2,658 377 3,035
5,264
2,931
-
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In the framework of current liabilities Trade Payables Related party – subsidiary (in dollars) Related party and interested party (in NIS)
7 49 56
733 733
1,379
850
57 57
57 1,228 1,285
Accounts Payable Related Party
Subsidiaries In the framework of non-current financial assets Investment in shares Dollar loans (bearing yearly interest of Libor + 1.5%)
v.
Balances with Interested Parties and Related Parties
2009
2008
2007
Thousands of Dollars Interested Parties/Related Parties Revenues from interested and related parties Flight tickets Cargo transport Maintenance services Use of software (subsidiary)
34,040 16,219 100
22,801 34,014 1,696
28,496 47,885 2,449 827
Financing (from subsidiary)
17
52
84
Operating Costs Transactions with controlling party Services from government institutes (former controlling parties)
76 -
156 -
39,956 50,150
5,574
8,853
12,177
110
136
140
2,843
1,980
3,694
-
-
900
Sales Expenses Primarily commissions and marketing fees (subsidiaries) Primarily agent commissions (to interested parties) Administrative and general expenses Financing Expenses
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Note 39 -
Transactions and Commitments with Subsidiaries 1.
As stated in Note 1c, the Company did not include separate financial information in its 2009 Financial Statements in accordance with Regulation 9c. of the Regulations, due to the negligibility of the added information. The Company fully owns several companies the activity of which completes the primary activity conducted within the framework of the Company. These companies do not act independently, but are in effect specific components of the Company's array of activities consolidated in the form of companies and this from regulation and other administrative reasons (salary agreements etc.). These companies are not material relative to the Company as the extent of assets, liabilities and revenues managed as part of the subsidiaries are negligible relative to the extent of the assets, liabilities and revenues managed within the framework of the Company. Therefore, publication of separate Financial Statements will not provide additional material information to the reasonable investor.
2.
The Company has entered into agreements with its subsidiaries as follows: a.
Activity between the parent company and its subsidiaries:
Company
Sun D'Or
Tamam Borenstein
Superstar Katit
Yearly Turnover 2009 2008 Leasing aircraft and associated services Commissions Purchasing food for Company flights from BGN Purchasing food for Company flights from New York Managements fees Loan to parent company (1) Sale of flight tickets Loan from parent company (2) Purchasing food for employees and food services in the King David Lounge in Terminal 3
68,051 648
76,217 717
19,608
20,088
6,352 188
6,911 156
8,578
15,341
2,767
2,740
Investment Credit and Debit Account as of Account 2009 2008 31.12.2009 31.12.2008 Thousands of Dollars 3
3
6,543
5,022
1,617
2,130
4,310
4,218
4,367
4,230
191
589
2,600
2,600
(32) 332
285 299
189
165
946
859
-
-
(1) In December 2008 the Company received a $2,600 thousand loan from Borenstein for a period of three years, at a 2.3% annual interest rate paid December 15 every year. In 2009 the Company's interest expenses for this loan amounted to $60,000 (in 2008 $3,000). (2) In September 2007 the Company provided Superstar with a £205,000 loan. This loan does not have a repayment date and bears no interest. b. Collateral: Sun D'Or guarantees the Company's liabilities to the Customs Authorities, to an amount of $100,000. The Company has granted Sun D'Or a letter of indemnification in which it undertakes to compensate Sun D'Or for any sum Sun D'Or is required to pay for the collateral.
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
c.
Mutual activity between subsidiaries:
Company
Type of Activity
Tamam-Katit
Food purchasing
Superstar-Sun D'Or
Flight Ticket Purchasing
Note 40 -
Yearly Turnover 2009 2008 Thousands of Dollars 58 111 2,095
1,110
Credit and Debit Account as of 31.12.2009 31.12.2008 Thousands of Dollars 20 27 788
1,169
Liens and Collateral As stated in Note 16 above, the Company's assets free of liens are aircraft and reserve engines worth $34 million as well as parts and other fixed assets to the amount of $138 million. With the exception of these assets, the assets are encumbered in favor of loans granted by the lending banks. The following details the Company’s liabilities secured by liens: Type of Plane
777-200ER
777-200ER
747-400
Plane register code
ECA ECB ECC
ECD ECE ECF
ELA ELB ELC ELD ELE
Year of Manufacture
2001
2002 2007 2007
1994 1994 1995 1999 1994
Lien Details Fixed and specific first-tier pledge and lien in favor of banks in Israel on all of the Company's rights to the aircraft. The pledges and liens cover all the engines, rights deriving from leasing or use of aircraft, or from contracts or insurance policies and also on rights for compensation or indemnification in connection with those aircraft. In addition, a first-tier floating lien was registered on all the engines and auxiliary equipment installed on the abovementioned aircraft from time to time, as well as the insurance rights with respect to them. No additional lien may be registered on those assets and the assets may not be transferred without the bank’s advance, written consent. Fixed and specific first-tier pledge and lien in favor of a trustee for collateral (for ECD; as regards ECE and ECF, see Note 22.d.2) on all of the Company's rights to the planes. The pledge and lien include all the rights deriving from contracts connected to the plane, rights to indemnification or insurance proceeds for the aircraft, engines, or any related to it and all rights under from the lease agreement for the aircraft. In addition, the Company assigned by way of a pledge in favor of a foreign company, all of the existing and/or future rights arising from insurance policies for the aircraft. Fixed and specific first-tier pledge and lien (for ELA and ELB for an overseas banking corporation, for ELC and ELE for an Israeli bank and for ELD for Israeli banks) on all of the Company's rights to the planes. The pledge and lien include all the engines, the rights deriving from the lease or use of the aircraft or contracts or insurance policies and rights to indemnification or insurance proceeds for the aircraft in question. In addition, a first-tier floating lien was registered on all the engines and auxiliary equipment installed on the abovementioned aircraft from time to time, as well as the insurance rights with respect to them. No additional lien may be registered on those assets and the
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assets may not be transferred without the bank’s advance, written consent.
757-200ER
767-200ER
737-800
737-800
EBT EBU EBV
EAC EAD EAE EAF
EKA EKB EKC EKD EKE
EKH EKJ EKL
1991 1993 1993
Fixed and specific first-tier pledge and lien for an Israeli bank on all of the Company's rights to the planes. The pledge and lien include all the engines, the rights deriving from the lease or use of the aircraft or contracts or insurance policies and rights to indemnification or insurance proceeds for the aircraft in question. In addition, a first-tier floating lien was registered on all the engines and auxiliary equipment installed on the abovementioned aircraft from time to time, as well as the insurance rights with respect to them. No additional lien may be registered on those assets and the assets may not be transferred without the bank’s advance, written consent.
1984 1984 1990 1990
Fixed and specific first-tier pledge and lien for an Israeli bank on all of the Company's rights to the planes. The pledge and lien include all the engines, the rights deriving from the lease or use of the aircraft or contracts or insurance policies and rights to indemnification or insurance proceeds for the aircraft in question. In addition, a first-tier floating lien was registered on all the engines and auxiliary equipment installed on the abovementioned aircraft from time to time, as well as the insurance rights with respect to them. No additional lien may be registered on those assets and the assets may not be transferred without the bank’s advance, written consent.
1999
Fixed and specific first-tier pledge and lien for an Israeli bank on all of the Company's rights to the planes. The pledge and lien include all the engines, the rights deriving from the lease or use of the aircraft or contracts or insurance policies and rights to indemnification or insurance proceeds for the aircraft in question. In addition, a first-tier floating lien was registered on all the engines and auxiliary equipment installed on the abovementioned aircraft from time to time, as well as the insurance rights with respect to them. No additional lien may be registered on those assets and the assets may not be transferred without the bank’s advance, written consent.
2009
Fixed and specific first-tier pledge and lien in favor of a trustee for collateral (see Note 22.d.4) on all of the Company's rights to the planes. The pledge and lien include all the rights deriving from contracts connected to the plane, rights to indemnification or insurance proceeds for the aircraft, engines, or any related to it and all rights under from the lease agreement for the aircraft. In addition, the Company assigned by way of a pledge in favor of a foreign company, all of the existing and/or future rights arising from insurance policies for the aircraft
Additional liens: 1.
In order to secure the Company’s liabilities for the utilization of credit lines provided to it by two banks in Israel (including the furnishing of bank guarantees), the Company pledged its revenues from three specific travel agencies in Israel by way of mortgaging and registering first-tier floating and perpetual liens and by way of assignment of rights in the form of a pledge.
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2.
A lien in favor of an Israeli bank on funds deposited or to be deposited from time to time, including income thereon, in the Company's accounts in the London branch of said bank.
3.
To guarantee a long term loan received from a leasing company for the purchase of an engine for the 777200 fleet, the Company listed a first-tier loan unlimited in sum on the engine (including insurance, compensation and indemnification rights).
4.
A lien in favor of a foreign bank on a spare engine for the 777-200 fleet, purchased with the financing of an overseas bank, for which the foreign bank provided collateral. The lien includes rights deriving from insurance, compensation and remuneration.
5.
Regarding the leased aircraft in the 737-800 fleet (marked EKS and EKF), liens on all of the insurance policies pertaining to the asset for a foreign company. No additional lien may be registered on those assets or the assets may not be transferred without the owner's consent.
Regarding non-pledged Company assets, see Note 16l. Note 41 -
Events Subsequent to the Balance Sheet Date a.
Framework Agreement with Cargo Terminals and Handling Ltd. ("Maman"): On February 3 2009 the Company signed a framework agreement with Maman, which operates a cargo terminal at Ben Gurion Airport, regarding the receipt of terminal services from Maman. According to the agreement, Maman shall grant the Company, during the period of the agreement, discounts on regular rates prior to the signing of the agreement pertaining to terminal services. The agreement shall be in effect (retroactively) from the beginning of 2009 to the end of 2010, with El Al retaining the right to extend the agreement for three additional one year periods followed by an additional three month agreement. El Al's right to extend the agreement for any of the aforementioned extension periods is subject to the fact that in the year preceding the extension the amount of El Al cargo treated at the Maman terminal did not drop below a certain threshold. At the end of all of the extension periods, insomuch as Maman's current license to operate the terminal is extended, El Al shall be entitled to extend the agreement by an additional four years. According to the agreement, subject to the requisite approvals, Maman shall allocate shares to El Al to the amount of 15% of Maman's stock capital, with half of them allocated prior to signing the agreement, a quarter at the beginning of 2011 (subject to the first extension of the agreement) and an additional quarter at the beginning of 2012 (subject to the second extension of the agreement). El Al shall be precluded from passing on shares allocated in the above manner for a period of 15 months from allocation. In addition, El Al shall be granted options to purchase Maman shares at a rate constituting 10% of Maman's issued capital, exercisable within six years of granting at an exercise price of 22.330 million NIS (in the event of exercise within first three years after granting) or alternately 23.625 million NIS (in the event of subsequent exercise). In addition, it was agreed that the parties would strive to tighten their business cooperation past the area of cargo handling in Israel. On February 18 2010 the Company's offices received a letter from the Antitrust Authority addressed to the CEOs of the Company and of Maman. In its letter, the Antitrust Authority informed them that the arrangement between the parties according to which Maman would grant the Company rate discounts and issue options and shares may seemingly constitute a binding arrangement as per Section 2 of the Antitrust Law and may also constitute a misuse of stature by the owner of a monopoly as per Section 29a of the Law and therefore the Antitrust Authority suggested that at this stage the parties avoid acting in accordance with the agreement until the legalities of the arrangement are fully resolved. On March 14 2010 Maman announced that it would be postponing the date of its General Meeting as detailed above to May 4 2010. The Company and Maman are holding talks to decide upon further courses of action.
b. The Minister of Transportation's decision to approve scheduled flights to Eilat: In continuation to Note 17.c.1 regarding the Company's appointment as designated carrier to Eilat, on February 4 2010 the Minister of Transportation accepted the recommendations of the CAA and issued his authorization to the Company to operate scheduled flights between BGN and Eilat. According to the Minister's decision, the Company may operate three daily flights in either direction between BGN and Eilat on five out of seven days a week, offering no more than 430 seats per day in each direction. C-113
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EL AL ISRAEL AIRLINES LTD. NOTES TO THE FINANCIAL STATEMENTS
In addition, the Company shall be required to operate at least one daily flight in each direction, five days a week, and offer 100 seats in each direction at least on all flights and separate between the frequent flyer programs operated by the Company on international lines and domestic services. Concurrently with the decision allowing the Company to fly to Eilat, the Minister of Transportation decided to release Israir from its flight schedule and seat obligations and allow it to set its flight schedule between Sdeh Dov and Eilat and between BGN and Eilat according to its own priorities. The Minister of Transportation's decision was set for a six month period starting from the beginning of flights by the Company. At the end of the period the Company's entry into the route shall be examined and requisite changes, if any, will be decided upon accordingly. As noted above, the beginning of flights will be postponed by 30 days from the date of the Minister's approval in order to allow Arkia and Israir to approach the court with a repeat petition to revoke the approval granted El Al regarding the flights on the Eilat route. On March 8 2010 Arkia filed a petition before the High Court of Justice against the Minister of Transportation and Road Safety, the Civil Aviation Authority and the Company (hereinafter: "the Respondents") and on March 9 2010 Israir filed a similar petition before the court. In these petitions the court was asked to issue a temporary order instructing the Respondents to explain why exactly the Minister of Transportation's Authorization on February 4 2010 to allow the Company to operate direct flights between Ben Gurion Airport and Eilat should not be revoked. In addition, the court was asked to issue an interim order (or alternately an injunction until a hearing is held on the petition) instructing the Respondents to avoid realizing the decision until the petition is resolved. The Supreme Court decided not to issue interim orders on the petitions filed by Arkia and Israir and the court consolidated the discussion on the petitions and ruled that the petitions shall be brought before the court before the end of April 2010. On March 10 the Company filed a petition to the High Court of Justice against the decision by the Minister of Transportation on the matter of the license granted the Company to operate the Eilat route ("the Decision"), pursuant to which a temporary order was requested instructing the Minister of Transportation and the Head of the Civil Aviation Authority to explain why the Court should not rule that the restrictions placed on the Company in the Decision be cancelled, including the restrictions involving the frequency of flights and amount of seats, minimum flight requirements and the requirement that the Company's international frequent flyer plan be separated from its domestic frequent flyer plan, as well as why the court should not instruct them to clarify why the Company's license needs to be reexamined after a period of six months. c.
Memorandum of understanding for leasing a Boeing 747-400 cargo plane: On February 17 2010 the Company signed a memorandum of understanding for the leasing of a Boeing 747400 aircraft, manufactured in 1994, with an Irish aircraft leasing company. According to the memorandum of understanding, the Company shall lease the aircraft for a period of 24 months, with the option to extend the lease for an additional 36 month period. Pursuant to the memorandum of understanding the Company was granted the right of first refusal and options to purchase the aircraft, in accordance with the understandings between the parties. Completion of the transaction is contingent on the signing of a detailed agreement as well as the receipt of approvals from third parties, including regulatory approval.
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