Itamar Medical Ltd.
Annual Report 2014

Plain-text annual report

Disclaimer Set out below is an unofficial translation into the English language, for convenience purposes only, of the financial statements of Itamar Medical Ltd. (the “Company”) for the year ended December 31, 2014 (the “Financial Statements”) that originally were prepared in the Hebrew language. The full, legal and binding version of the Financial Statements for all purposes is the Hebrew version, filed by the Company with the Israel Securities Authority and published on the MAGNA website: www.magna.isa.go.il, on March 24, 2015 In the event of a contradiction or inconsistency between this translation and the Hebrew version of the Financial Statements, the provisions of the Hebrew version shall prevail. This translation was not carried out by the Company, nor checked by the Company, and accordingly, the Company does not guarantee that the translation fully, correctly or accurately reflects the Hebrew version of the Financial Statements and its contents. Neither the Company, nor any of its directors, employees, advisors or other office holders, accept any responsibility on any grounds whatsoever to any other person in connection with this translation into English of the Financial Statements. The Company assumes no liability for any damages or loss of any kind (including, without limitation, indirect, special, incidental, punitive or consequential damages,) that might arise from the use of this translated version of the Financial Statements. Readers are advised to read the authoritative Hebrew version of the Financial Statements in all matters which may affect them and/or their decisions in any way. Below are links to the Company’s Financial Statements in Hebrew: http://maya.tase.co.il/bursa/report.asp?report_cd=888228 http://maya.tase.co.il/bursa/report.asp?report_cd=888228-01&CompCd=1411&Type=Pdf 1     ITAMAR MEDICAL LTD. 2014 ANNUAL REPORT MARCH 23, 2015 2         ITAMAR MEDICAL LTD. 2014 ANNUAL REPORT TABLE OF CONTENTS: 1. Part A – Description of Corporate Affairs 2. Part B – Board of Directors’ Report on the State of Corporate Affairs 3. Part C – Financial Statements 4. Part D – Additional Information Regarding the Corporation 5. Part E – Certifications by Officers with Regard to the Financial Statements 3     ITAMAR MEDICAL LTD. PART A DESCRIPTION OF CORPORATE AFFAIRS AS OF DECEMBER 31, 2014 4     Table of content 1. 2. 3. 4. 5. 6. 7. 8. 9. Description of Corporate Operations and Development of Corporate Business ............................ 7 Operating segments ....................................................................................................................... 11 Investments in corporate capital and transactions in corporate shares ......................................... 12 Dividend distribution .................................................................................................................... 13 Financial information with regard to the corporation’s operating segments ................................ 14 General environment and impact of external factors on Company operations ............................. 14 General information about the operating segment ........................................................................ 17 Products and services .................................................................................................................... 23 Composition of revenues from products and services .................................................................. 39 10. New products ................................................................................................................................ 39 11. Customers ..................................................................................................................................... 40 12. Marketing and distribution ............................................................................................................ 41 13. Order backlog ............................................................................................................................... 43 14. Competition .................................................................................................................................. 43 15. Seasonality .................................................................................................................................... 56 16. Production capacity ....................................................................................................................... 56 17. Fixed assets, land and facilities ..................................................................................................... 57 18. R&D Expenses .............................................................................................................................. 57 19. Intangible Assets ........................................................................................................................... 65 20. Human resources ........................................................................................................................... 71 21. Raw materials and suppliers ......................................................................................................... 78 22. Working capital ............................................................................................................................. 80 23. Investments ................................................................................................................................... 81 24. Financing ...................................................................................................................................... 81 25. Taxation ........................................................................................................................................ 85 5     26. Environmental risk and management thereof ............................................................................... 85 27. Restrictions on and supervision of Company operations .............................................................. 86 28. Material agreements ...................................................................................................................... 90 29. Collaboration agreements ............................................................................................................. 91 30. Legal Proceedings ......................................................................................................................... 93 31. Business objectives and strategy ................................................................................................... 93 32. Information regarding unusual changes in corporate business ..................................................... 98 33. Financial information regarding geographical segments .............................................................. 98 34. Discussion of risk factors .............................................................................................................. 99 6       ITAMAR MEDICAL LTD. (THE “COMPANY”) PART A – DESCRIPTION OF CORPORATE AFFAIRS 1. Description of Corporate Operations and Development of Corporate Business 1.1. Introduction The Board of Directors of Itamar Medical Ltd. is pleased to present this description of the corporate affairs for the year ended December 31, 2014 (the “reported period”) which reviews the corporation and evolution of its business in 2014. This report was compiled in conformity with the Securities Regulations (Periodic and Immediate Reports), 1970 (the “Reporting Regulations”). Financial data in this report are in dollars, including the Notes to the Company’s consolidated financial statements as of December 31, 2014. Data in this report which are indicated to be correct as of the date of this report are current as of March 23, 2015. With regard to references to professional articles included in this report, note that the Company has not independently verified the data and/or forecasts included in such research and has not carried out in itself the experiments/research mentioned therein. However, to the best of the Company's knowledge, the professional articles to which the Company refers in this report are scientific publications in well-known journals in various fields of medicine, considered to be reliable - since these journals verify and validate each article prior to publication through peer review committees. The Company meets the definition of “Small Corporation” in the Reporting Regulations. On March 18, 2014, the Company’s Board of Directors resolved to adopt the reliefs set forth in the Reporting Regulations with regard to small corporations, on the following matters: (a) enclosing financial statements of an associated company; (b) report on effectiveness of internal controls over financial reporting; (c) enclosing of highly material valuations; (d) details of exposure to market risk. Note that due to the carrying amount of convertible notes (Series L), the Company included a chapter on exposure to market risk in the Board of Directors’ Report. 1.2. Definitions and legend For convenience, in this report the following abbreviations shall have the following meanings: The “Corporation” or - Itamar Medical Ltd. 7     The “Company” The “U.S. Subsidiary” - Itamar Medical Inc., incorporated in the U.S. and wholly-owned by the Company. The “Japanese subsidiary” Itamar Medical Japan Co. Ltd., incorporated in Japan and wholly-owned by the Company. The “Group” The Company and its subsidiaries. “PAT” “PAT signal” - Peripheral Arterial Tone; PATTM - This signal measures changes in peripheral arterial pulse volumes and various parameters of arterial activity. “PAT technology” - Technology for monitoring the PAT signal. “CPT code” or “reimbursement code” - Insurance coverage standard for (reimbursement to users of) medical procedures as published by the AMA from time to time (see Section 6.2 below) “ISA” - The Israel Securities Authority “report date” or “report publication date” March 23, 2015 “TASE” - The Tel Aviv Stock Exchange Ltd. “dollar” or”$” - U.S. dollar “NIS” - New Israeli Shekel The “Industrial R&D Promotion Law” - The Industrial Research and Development Promotion Law, 1984 The “Companies Law” - The Companies Law, 1999 The “Securities Law” - The Securities Law, 1968 “FDA” - The Food and Drug Administration is the U.S. regulatory body charged with, amongst others, regulation and monitoring of the development and registration of drugs and medical devices in the U.S. 8     1.3. Overview The Company was incorporated in 1997 as a private company in Israel and it is engaged in research and development of non-invasive PAT-signal-based medical devices, mainly for diagnosis of cardiological conditions, as well as sleep breathing disorders and in production, marketing, sale and leasing of those devices. On February 27, 2007, the Company issued a prospectus in which it first offered securities to the public - shares, convertible notes (Series A) and warrants (Series 1). On March 13, 2007, the Company listed its securities for trading on the TASE, making the Company a public company, as defined in the Companies Law and a reporting entity, pursuant to provisions of the Securities Law and regulations published thereunder. In addition, as described in Section 3 below, the Company has a shelf prospective which is effective until February 12, 2016 The unique technology developed by the Company is capable of monitoring the PAT signal. The PAT signal measures changes in the patient’s peripheral arterial pulse volumes as well as various parameters of arterial activity. These arterial activity parameters accurately reflect the patient’s sympathetic nervous system (autonomous (involuntary) nervous system) activity, as well as changes to the endothelial system (the “endothelium” or the “endothelial layer”). The peripheral arterial volume is measured, using the PAT Technology, by way of a thimble-shaped probe which fits over the patient’s finger and transmits information to a computer-based processing system which monitors the PAT signal and diagnoses the patient. The information derived from the PAT signal is potentially useful in diagnosis of a wide range of common medical conditions. As of the date of this report, the Company is developing and marketing products based on the PAT signal that are mainly for diagnosis of cardiological conditions, as well as sleep breathing disorders: EndoPAT™ (“EndoPAT”) and WatchPAT™ (“WatchPAT”). The WatchPAT diagnoses sleep apnea, which has been proven to be a substantial risk factor in cardiac disease. Treatment of such disorders significantly improves the condition of the heart. EndoPAT is used to diagnose endothelial malfunction, which is a proven predictor of cardiovascular disease. For more information about the general environment in which the Company operates and on the Company’s products, see Sections 6 and 8 below. During 2014, following changed in the Company’s senior management, the Company revised its strategic plan to focus on marketing of EndoPAT and WatchPAT to the cardiology markets (while continuing to market WatchPAT to the sleep disorder market) in the U.S., Japan and China, which the Company regards as the major 9     markets for its products with potential for increased sales volume. The Company has changed the format of its financial statements (commencing with this report) to reflect this change and reports on only one operating segment. For further information on the Company’s strategy, see Section 31 below. In January 2015, the U.S. subsidiary launched the Total Sleep Solution (–“TSS”) family of products and services. TSS is intended to provide a complete Sleep Apnea management solution to cardiology medicine (clinics and departments in hospital- based environments). The TSS changes the Company's business model and shifts it from a manufacturer and seller of medical devices to a complete service pathway provider, including products, education and services throughout the patient care pathway. For further details, see Section 8.4 below. 1.4. Holdings structure The following is the Company’s holding structure: Itamar Medical Ltd. 100% Itamar Medical Japan, Co. Ltd. 100% Itamar Medical Inc. 1.5. Year and form of incorporation The Company was incorporated and registered in Israel on January 15, 1997 under the name Itamar Medical (CM) 1997 Ltd., as a private company in conformity with provisions of the Companies Ordinance (New Version), 1983. On July 24, 2000, the Company changed its name to Itamar Medical Ltd. The Company has a wholly-owned subsidiary, Itamar Medical Inc., registered in the State of Delaware, U.S. This subsidiary is engaged in marketing the Company’s products in the U.S. The Company also has a wholly-owned subsidiary, Itamar Medical Japan Co. Ltd., registered in Japan. This subsidiary is engaged in marketing the Company’s products in Japan. 10       2. Operating segment The Company has one operating segment - medical products for cardiology. The Company is engaged in the research, development, marketing, selling and leasing of non-invasive medical devices using the PAT signal as follows: 2.1. WatchPAT - a product for diagnosis of sleep apnea, which has FDA approval and, beyond the medical benefit, may lead to overall cost reduction of the medical process (diagnosis, treatment and monitoring) compared to current testing used at sleep laboratories. According to published research1, the total cost of medical management based on a sleep laboratory (PSG) is almost three times (in some cases, for sleep laboratories in hospitals, even ten times) the total cost of medical management based on mobile testing devices, such as WatchPAT. In the past, a U.S. insurer - United Healthcare - issued a directive which stipulates that reimbursement requests for sleep testing at a sleep laboratory would be rejected, unless home sleep testing was first conducted (July 2011, Volume 44)2. As from 2014, the Company is striving to expand use of WatchPAT to other market segments, given recently-published scientific research which proves the connection between Sleep Apnea and severe medical conditions such as: hypertension, diabetes, heart disease, arrhythmia, neurological conditions and even complications following surgery under full anesthesia. The Company intends to join forces with distributors specializing in these market segments. As mentioned above, in January 2015, the U.S. subsidiary launched the Total Sleep Solution, a WatchPAT based family of products and services for the treatment of Sleep Apnea. For further details, see Section 8.4 below. 2.2. EndoPAT is used for diagnosis of endothelial dysfunction, an early stage of arteriosclerosis and indication of developing heart disease. EndoPAT2000 has FDA approval. In January 2014, the CPT code (code III), which is a code for emerging technologies and not a full insurance code (as described in Section 8.2 below). This is a specific 1 2 Townsend D, Sharma A, Brauer E, Scattarelli D, McEiver J, Eiken T, Freiberg M Assessing Efficacy, Outcomes, and Cost Savings for Patients with Obstructive Sleep Apnea Using Two Diagnostic and Treatment Strategies. Sleep Diagnosis and Therapy, Dec. 2006. https://www.unitedhealthcareonline.com/ccmcontent/ProviderII/UHC/en- US/Assets/ProviderStaticFiles/ProviderStaticFilesPdf/Tools%20and%20Resources/Network%20Bulletin/Netw orkBulletin_July2011supplement.pdf 11                                                                   code for reimbursement of the EndoPAT test for symptomatic patients (at risk for heart disease) (“symptomatic patients”) or patients with heart disease. Since the insurance reimbursement matter has not yet been finalized, penetration of the clinical treatment market by this product is still directed to markets that are not insurance- dependent, with emphasis on the Health and Wellness market which focuses of the prevention of medical problems independently of the possibility of obtaining financial reimbursement for the tests. 3. Investments in corporate capital and transactions in corporate shares In February 2013 the Company filed a shelf prospectus for the possible issuance of shares, notes, warrants and commercial paper (the “shelf prospectus”). On January 26, 2015, the Company received the ISA’s consent for the extension of the period of the offering of securities under hew shelf prospectus by another 12 months, i.e. – until February 12, 2016. Following is information about investments in the Company’s capital and other capital raised by the Company during the past two years: Number of securities allotted NIS 62,556,000 par value. Issue date Nature of the transaction Identity of investors Price of securities The Public NIS 1.00 for each NIS 1 par value of notes. February 2013 Public issuance (by publication of a shelf offering pursuant to the shelf prospectus) of notes (Series L). Total consideration Approximately NIS 62.6 million, of which approximately NIS 13.3 million (approximately $3.5 million) invested by interested parties and used to repay private loans extended by said interested parties to the Company. Reference to offering report For details - see immediate report dated February 28, 2013 (reference: 2013-01- 051114) regarding the outcome of the public issuance of notes. For more information see Section 24.3 below and Section 5 of the Board of Directors’ report enclosed as Part B of this Annual Report. See also Section 24.4 below with regard to the commitment of interested parties as of that date, to provide a credit facility to the Company, including against issuance of the Company’s notes. March 2013 Private issuance of notes (Series Three institutional investors NIS 0.985 for each NIS 1 par value of NIS 13,700,000 par value. Approximately NIS 13.5 million (approximately $3.5 million) For details - see immediate report dated March 12, 2013 (reference: 2013-01-003424) regarding the outcome of the 12     December 2013 L). Private issuance of shares. January 2014 Private issuance of shares. May 2014 Private issuance of shares Migdal Insurance Company Ltd. Phoenix Investments and Finance Ltd. and Phoenix Insurance Company Ltd. (nostro account- elementary) Two institutional investors – Migdal Insurance Company Ltd. and Yelin Lapidot Investment House Ltd. notes. NIS 1.35 per share. 11,111,111 ordinary shares of NIS 0.01 par value each. Approximately NIS 15 million (approximately $4.4 million) NIS 1.35 per share. 13,703,703 ordinary shares of NIS 0.01 par value each. NIS 18,500,000. NIS 1.80 per share 13,111,111 ordinary shares of NIS 0.01 par value Approximately NIS 23.6 million (approximately $6.8 million) private offering of notes. For details - see immediate reports dated December 8, 2013 (reference: 2013-01- 091030) and December 25, 2013 (reference: 2013-01- 107569). For details -see immediate reports dated December 22, 2013, (reference: 2013- 01-102862), as amended on January 1, 2014, (reference: 2014-01- 001936) and January 7, 2014 (reference: 2014-01- 00822). For details – see immediate report dated May 8, 2014 (reference: 2014-01-068535) 4. Dividend distribution The Company has not distributed any dividends since its incorporation. As of December 31, 2014, the Company has no distributable earnings. The deed of trust of the Series L notes provides that, should the Company distribute dividends in excess of 50% of its legally distributable earnings accrued since October 1, 2012, as reflected by its audited annual financial statements or its interim financial statements, as the case may be, net of any distributions made from the date of the original issuance of the notes, this would constitute a cause for the immediate redemption of the notes. The Company does not intend to distribute dividends in the foreseeable future, but rather intends to invest its future profits in the expansion of the Group’s activities. 13     5. Material recent developments during the reported period For information about material developments in the Company’s financial results, see the Company’s Board of Directors’ Report as of December 31, 2014, included in Part B of this Annual Report. 6. General environment and impact of external factors on the Company’s operations 6.1 Healthcare budgets in target market countries The Company’s operations are focused on development, manufacture, sale and marketing of medical devices; in early 2015 the Company launched Total Sleep Solution, a WatchPAT based family of products and services for the treatment of Sleep Apnea. Investment in healthcare in countries in which the Company does business, as well as budgets allocated for purchase of medical devices, are under reduction pressures. The Company’s products are not considered to be life-saving devices and therefore their sales volume may be negatively impacted in periods of economic slow-down. However, on some Far East markets the Company's products are utilized in preventive medicine by way of early detection of cardiological problems. 6.2 Reimbursement policies of healthcare insurers Most developed nations, including the Company’s primary target markets, have a policy of full or partial expense reimbursement for medical testing and treatment by various healthcare insurers, which is stipulated from time to time by Government policy (with regard to patients insured under Government healthcare insurance policies) as well as by private and public healthcare insurers (for patients insured under private or public healthcare insurance policies). The Company believes that, should it succeed in securing sufficient expense reimbursement for use of its products (so as to cover the medical expense for the end customer and/or profitability for the testing or treatment provider) - demand for the Company’s products and services in its target markets should increase. In the U.S. there are two major healthcare associations tasked with considering and approving medical codes used for medical reporting and for (full or partial) expense reimbursement for medical testing and treatment, as follows:  One is the U.S. Centers for Medicare & Medicaid Services (“CMS”), an organization which provides healthcare insurance for U.S. citizens aged 65 and over and to those with low income. For information about CMS regulations with 14     regard to expansion of insurance coverage provided to its patients in the U.S., including the Company’s WatchPAT product, see Section 8.1 below.  The other is the American Medical Association (“AMA”), which is the general association of private healthcare insurers in the U.S. There are also professional organizations which set guidelines for the physicians with regard to medical procedures. Such guidelines include the inclusion or non-inclusion of specific medical procedures and indication of the significance of such medical procedures for patient diagnosis and treatment (and do not determine the insurance reimbursement). Non-inclusion or exclusion of the Company’s product from medical procedures in these guidelines may materially impact the Company’s ability to sell its products. 6.3 Medical research Medical research published in recent years, with regard to the importance of endothelial function and the importance of assessing this function, as well as medical research concerning the connection between sleep breathing disorders and other conditions, may result in increased demand for the Company’s products in this segment. Furthermore, publications with regard to connections between the Company’s fields of endeavor and other medical fields, such as: endothelial function and metabolic syndrome, erectile dysfunction, primary and repeat cardiac events, stroke and congestive heart failure, the effect of Sleep Apnea on Arrhythmia (such as atrial fibrillation), hypertension, diabetes, heart disease, chronic heart failure, neurological conditions, complications following surgery under full anesthesia etc. may impact the use of the Company’s products. 6.4 Developments in medical treatment (devices and drugs) Introduction of new medical treatment procedures, with emphasis on unique, innovative drugs for treatment of cardiovascular problems (such as arteriosclerosis) and sleep breathing disorders in countries where the Company operates, is likely to result in increased use of the Company’s products designed for diagnosis of heart conditions and sleep breathing disorders prior to the start of treatment. 6.5 Development and production of competing products The Company’s operations are impacted by competition in development and marketing of competing products using different technologies. The Company is unable to impact neither the entry of new competitors into the market nor continued development of existing competitors - and therefore the Company intends to further invest in improvement of its own products, including through development of new 15     applications in order to bolster its competitive position. For more information about these competitors, see Section 14 below. 6.6 Approval policy of the Company’s products by regulators in each country The Company’s operations are impacted by policies of regulators concerning approval of its products in the target markets. Refusal to approve distribution of a product, or rescinding of existing approval, would impact the Company’s business results. For information about relevant regulators and required approvals, see Section 27 below. 6.7 Adult population and public awareness A trend of aging population is apparent in the western world. The Company believes that demand for healthcare products and innovative technology, such as the Company’s would continue to grow in the senior population (aged 40-80) in Western countries. Furthermore, a growth trend is apparent in public awareness in Western countries in which the Company does business, of the importance of early diagnosis of arteriosclerosis as well as of the importance of resolution of sleep breathing disorders and their critical impact on quality of life during waking hours and on the cardiovascular system - a field in which the Company is engaged. 6.8 Fluctuations in exchange rates Fluctuations in exchange rates of various currencies have a significant impact on the Company’s operating results, primarily since the Company’s sales are mostly in the U.S. and in Europe, in dollars and in Euros, as well as in Japan in Japanese yen, whereas a significant portion of the Company’s expenses is in Israeli currency (NIS). In order to limit the Company’s exposure to exchange rate fluctuations, the Company takes measures, from time to time, to hedge its exposure to loss due to exchange rate fluctuations, as listed in Sections 7 and 9 of the Board of Directors’ report, enclosed as Part B of this Annual Report. 6.9 Fluctuations in raw material prices The Company’s cost basis is impacted by fluctuations in raw material prices and in their availability (primarily: (i) plastics whose price is impacted, amongst others, by oil prices; and (ii) electronic components). The Company has no material influence over fluctuations in raw material prices, other than by taking advantage of various opportunities to purchase raw material at attractive prices. 16     6.10 Additional taxation of sales of medical equipment in U.S. as from 2013 Following the healthcare reform in the U.S., which requires all U.S. citizens, aged under 65 to acquire healthcare insurance and in order to partially fund the cost of this reform, the U.S. Federal Tax Authority imposed an additional Excise Tax, effective as from January 1, 2013, at the rate of 2.3% on sales of medical equipment in the U.S. The medical equipment manufacturer or importer is liable for payment of this additional tax. This tax applies to sales of the Company’s products in the U.S. For more information about the breakdown of Company sales by geographic areas, see Note 5 to the Company’s financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 7. General information about the Group’s operations 7.1 Since its inception, the Company is engaged in research and development of non- invasive diagnostic medical equipment and relevant services for early diagnosis and monitoring of medical conditions, focusing on cardiovascular conditions and on sleep breathing disorders. The unique technology developed by the Company can monitor the PAT signal, which provides a view of the sympathetic nervous system and of changes in the endothelial system, as well as an indication of patient health. 7.2 The WatchPAT product 7.2.1 The Sleep Apnea Syndrome is manifested in constantly recurring episodes of full or partial breathing interruption during sleep. In most cases, people suffering from Sleep Apnea are not aware of these breathing interruptions during their sleep and often wake up to get their breath back and avoid suffocation. These cases of waking up may result in a host of health issues, such as intense tiredness and sleepiness, primarily during morning hours, a tendency to fall asleep in passive situations, including when driving, lack of concentration, headaches during morning hours, impotency and depression. According to published research3, sleep breathing disorders impact the cardiovascular system and conditions, with a significant connection between Sleep Apnea and hypertension, diabetes, heart disease and Arrhythmia (such as failure, neurological conditions, atrial fibrillation), congestive heart 3 Increased incidence of cardiovascular in middle-aged men with obstructive sleep apnea: 17 year follow up. Am J Respir Crit Care Med. 2002;166:159 –165. Prospective study of the association between sleep disordered breathing and hypertension: NEJM vol. 342, May 11, 2000; Nocturnal Ischemic Events in patients with Obstructive Sleep Apnea Syndrome and Ischemic Heart Disease: ACC, vol.34, no. 6 Prospective Study of Obstructive Sleep Apnea and Incident Coronary Heart Disease and Heart Failure the Sleep Heart Health Study; Circulation. 2010;122:352-360 17                                                                   complications following surgery under full anesthesia and other diseases. The prevalence and severity of Sleep Apnea increase as the weight of U.S. and world population continues to increase, as well as with higher average age. Furthermore, there is growing evidence indicating that people who suffer from this syndrome develop more surgical complications and constitute a population at increased risk. 7.2.2 The most common test currently available for diagnosis of various sleep disorders, including Sleep Apnea, is a PSG test (See Section 14.2.1 below), which is conducted in sleep laboratories. Laboratory diagnosis involves simultaneous testing and recording of 20 or more channels, requires the patient to stay at the sleep laboratory, along with a technician, for one night or longer, attaching electrodes to various body parts, chest and abdomen belts and air tubes in the nostrils - and its cost is relatively higher than with mobile devices (this cost is partially reimbursed by insurers). Other testing for sleep disorder diagnosis is conducted with devices which do not require use of a laboratory environment, which the patient can take home with them (“home sleep testing”). Such devices often have fewer channels than tested using PSG, require training by a technician and according to published research, some of them may lack certain clinical data4 - but are considered acceptable for preliminary diagnosis of sleep disorder and are approved for such use by the FDA. As a result of the foregoing, demand for mobile devices for sleep breathing disorder diagnosis is growing as the awareness of sleep disorder grows - primarily due to the discomfort, high cost and long wait required for appointment which are associated with PSG testing carried out at sleep laboratories. 7.2.3 The Company-developed product, WatchPAT, is a mobile device for convenient use in diagnosis of sleep breathing disorders. 7.3 The EndoPAT product 7.3.1 As medical statistics indicate, cardiovascular disease is the most common cause of death in Western countries. According to information published by the 5 Heart Disease and Stroke Statistics--2013 Update: A Report from the American Heart Association, Circulation. 2013;127:e6-e245 18                                                                     American Heart Association5 in December 2012, based on data from 2009- 2010, in the U.S. alone over one third of the adult population (83.6 million people) were diagnosed with, or at high risk of developing, one or more types of cardiovascular disease. Increased life span, changes in life habits (such as changes of employment and leisure habits, changes of consumption, etc.) and dietary changes increase the prevalence of cardiovascular diseases and therefore increase the need for diagnosis, treatment and prevention of such diseases. For information about the potential market size for this product - see Section 8.2 below. 7.3.2 A major cause of such disease is atherosclerotic lesions due to changes in the structure and function of the inner lining of blood vessel walls (the endothelium) and the formation of inflammatory processes which may give rise to local stenosis in the vascular lumen, as well as damage to the integrity of the arterial and formation of blood clots. The damage to endothelial function can occur years before the formation of atherosclerotic lesions. Therefore, early detection and early treatment thereof are of great importance. 7.3.3 The EndoPAT 2000 is a non-invasive device which uses the PAT technology to evaluate endothelial function in arteries at an early stage of disease development and which may be used for diagnosis for administration of appropriate treatment. The endothelium consists of a single layer of extremely densely arranged flat epithelial cells coating the inner vascular wall. Since the endothelium is an organ on its own, damage to it – non-continuity of cells, faulty functioning of the mechanism secreting substances such as NO (Nitric Oxide) etc. – is systemic. This means that if damage is found to the endothelium in the finger, this would indicate a potential similar damage to the endothelium of cardiac arteries. Endothelial dysfunction constitutes a preliminary stage of arteriosclerosis. It affects the functioning of blood vessels in various parts of the body and often leads to coronary artery disease. 7.3.4 The following illustration shows the stages of development of arteriosclerosis, beginning with a minor accumulation of fat in the arterial walls (to the left) and finally resulting in a total blockage and arterial aneurysm (to the right). 5 Heart Disease and Stroke Statistics--2013 Update: A Report from the American Heart Association, Circulation. 2013;127:e6-e245 19                                                                   7.3.5 As from 2014, the Company focuses its activities on secondary prevention, mainly in the United States. This is the clinical-treatment market of symptomatic patients or patients with a heart condition at high risk of repeat cardiac events and who suffer from various symptoms. Scientific research made public over the past two years proves that assessment of arterial function allows for diagnosis of patients at risk of recurring heart attacks in the short to medium term (2-5 years). Research has found that, on average, heart patients who despite treatment of their condition remain with impaired arterial function, had a 4 times higher risk of repeat cardiovascular events (angina pectoris, heart attack, stroke or even death) - compared to those found to have proper arterial function6. Consequently, the reimbursement code assigned to EndoPAT testing in the U.S., valid as from January 2014, is designated for use in symptomatic patients or those patients diagnosed as having a heart disease. At the same time, the Company continues to support its current activities for primary prevention of the first heart attack, primarily in Japan (and in China), and endeavors to expand these activities). 7.4 Restrictions, legislation, standards and special constraints applicable to operating segment Marketing and sale of the Company’s products around the world are subject to various regulatory approvals such as: FDA (U.S. Food and Drug Administration), CE Mark (European standard for products), PMDA (the Japanese Healthcare Authority, equivalent to the FDA) and other international standards in various countries, designed to ensure product quality and safety. For more information about restrictions and legislation applicable to the Company, see Section 27 below. Note that the 6 Peripheral endothelial function and cardiovascular events in high-risk patients, Matsazawa et al , Journal of American Heart Association 2013 20                                                                   Company has received FDA, CE and PMDA approval for both WatchPAT and EndoPAT. 7.5 Changes in scope of operations For information about changes in scope of the operations, see Note 5 to the Company’s consolidated financial statements as of December 31, 2014, included in Part C of this Annual Report. 7.6 Evolution of markets and changes in customer characteristics The relevant markets for Company business - primarily in the U.S., have changed over the past decade due to multiple factors, including increased awareness by physicians of the importance of early diagnosis and treatment of sleep breathing disorders in general and cardiovascular disease particularly, as well as increased public awareness of these issues through electronic media and the internet. The increase in such awareness is due, amongst others, to scientific publications which link sleep breathing disorders to other conditions (Arrhythmia, heart disease, hypertension etc.) and due to ever increasing awareness of the implications of the various risk factors for diseases in the field of the Company’s activities. Furthermore, ambulatory devices (mobile devices for home use) for diagnosis of Sleep Apnea allow other medical experts (such as: family physicians, cardiologists and otolaryngologists) to also conduct testing in this field, thereby increasing current exposure to testing of sleep breathing disorders and further increase awareness of such testing. 7.7 Technological changes which may materially impact the Company’s activities Developments in product miniaturization and improvements in wireless data communications, as well as developments in computing, impact the development of The Company’s products. The Company regularly monitors such technological developments. 7.8 Critical success factors in operating segment and changes thereto The critical success factors are: 7.8.1 Adoption of home sleep testing by various insurers and setting of appropriate reimbursement for testing to be conducted, as listed in Section 6.2 above (expense reimbursement policy of healthcare insurers). 7.8.2 Setting up joint ventures and efficient marketing and distribution systems and strategies in different world countries. 21     7.8.3 Product introduction and deployment across healthcare service systems in different world countries. 7.8.4 Success of strategic partners in implementing the strategic plan. 7.8.5 Success of clinical trials – the success of clinical trials and publication of their results are essential to increasing awareness of products and their advantages. 7.8.6 Presentation of technological innovation compared with competitors. 7.8.7 Development of other innovative applications in response to needs of product users. 7.8.8 Provision of high-quality service, technical support and malfunction repair to customers. 7.8.9 Achievement of advantages and added value for products, compared with other medical procedures in the relevant markets. 7.8.10 Protection of intellectual property through patent registration. 7.9 Changes in suppliers and raw materials For details see Section 21 below. 7.10 Major barriers for penetrating markets 7.10.1 Achievement of recognition and support within the international medical community for the unique medical signal and for the products. 7.10.2 The need to acquire knowledge and technological infrastructure in the technology-oriented market with many competing developments. 7.10.3 Investment of substantial economic resources in the development, regulatory and marketing stages of the products. 7.10.4 Long time periods from start of development to commercial launch of products, which require significant external financing. 7.10.5 The need to protect development though patent registration. Patent approval processes and the possibility of objections to patent registration form a barrier for development of technological products. 7.10.6 Obtaining regulatory approvals from relevant supervisory entity in the local healthcare market, for commercial marketing of the Company’s products 22     (including FDA in the United States, and CE in Europe) and retaining such approvals after their receipt - a process which entails the investment of effort, time and money. 7.11 Alternatives for the Company’s products and changes thereto 7.11.1 The WatchPAT product The most common test at present for diagnosing various sleep disorders is the PSG test, performed at sleep laboratories. For more information about this test, see Section 7.2.2 above and Section 14.2.1below. There are also tests using mobile devices, essentially similar to the Company’s, in the sense that they do not require use of a laboratory environment and the patient may take them home. For more information see Section 14.2.2 below. 7.11.2 The EndoPAT product The EndoPAT2000 is a device designated for assessment of endothelial function/arterial function by non-invasive means approved for this purpose by the FDA, which allows early discovery and diagnosis of cardiac disease. However, it is possible that in future some biological marker would be found and approved for diagnosis of defects in the endothelial layer. To the best of the Company’s knowledge, there is one U.S. company in early stages of marketing a competing product, after receiving FDA approval (however, the usage indication as approved by the FDA does not mention testing of endothelial function or diagnosis of endothelial dysfunction 7.12 Competition and changes therein For information about the competition in the market, names of major competitors of the Company and the products which they offer - see Section 14 below. 8. Products and services 8.1 WatchPAT 200 WatchPAT is a mobile device which may be operated in patients’ homes, non- invasive, simple to operate for diagnosis of breathing disruption during sleep, identifies waking stages and sleeping stages, and distinguishes between the various sleeping stages. The failure rate of the test using the WatchPAT is lower than 2% and as such is also significantly lower than the failure rates in the testing of competing products, as set out in Section 14 below. 23     The Company continues its efforts to expand the use of WatchPAT to other market segments, given recently-published scientific research which proves the connection between Sleep Apnea and severe medical conditions such as: hypertension, diabetes, Arrhythmia, heart disease, congestive heart failure, neurological conditions and even complications following surgery under full anesthesia. The Company intends to join forces with specific distributors who specialize in these market segments, who would market The Company’s products to physicians, clinics and hospitals who would use The Company’s products for clinical treatment needs. In May 2014, the Company launched a platform using the cloud storing and processing system under the trade name of CloudPAT™ (“CloudPAT”). The services provided by CloudPAT simplify the use of WatchPAT and facilitate easy and convenient consultation with medical experts (the Company’s services do not include such consultations). The Company has also launched a new and improved version of the probe for the WatchPAT device, which simplifies the testing process and makes its use more convenient, both fitting it and while sleeping. For further details, see Section 8.3 below. The major geographic markets in which the WatchPAT is marketed are North America, Israel and Japan. The list price of the WatchPAT system is $4,950. WatchPAT200  24       Size of the diagnostic testing market for diagnosis of sleep disorders – The Company estimates, as of the date of this report, that WatchPAT addresses an existing market (mainly in the U.S.) of ambulatory sleep testing valued at $250 million annually from sales, and the Japanese market of ambulatory sleep testing valued at $100 from sales. The Company estimates that the share of ambulatory sleep testing is likely to increase at the expense of laboratory sleep testing, given the need for rapid, low-cost testing in response to the growing market for diagnosis of sleep breathing disorders. including The information about the potential market size constitutes forward-looking information, as defined in the Securities Act. Forward-looking information is uncertain information with regard to the future, based on information or estimates currently available to the Company, intents of or assessments by the Company as of the publication date of this report, or which is not entirely dependent on the Company. This information, in whole or in part, may not materialize or may materialize differently due, amongst others, to the following reasons: importance of maintaining a healthy life style so as to reduce the risk of illness, reduction of healthcare budgets of the relevant bodies (including hospitals, HMOs, insurers etc.), development of drugs to efficiently deal with illnesses that the Company’s products are intended to diagnose, competition in the market, and the expansion of the market for alternative products (including an increase in the market share of testing at sleep laboratories), entry of lower-cost competitors which would lead to lower prices on the relevant markets. increased popular awareness of the Insurance coverage in the U.S. for use of WatchPAT In March 2008, CMS published final regulations with regard to extension of insurance coverage provided to its policyholders in the U.S. for home diagnosis (including the Company’s WatchPAT product) of Sleep Apnea and for use of CPAP (Continuous Positive Airway Pressure) masks for treatment of Sleep Apnea following diagnosis by means of testing by ambulatory / home systems (including by the Company’s WatchPAT product) or testing at sleep laboratories. In November 2010, the official AMA website announced that the AMA had granted the Company’s WatchPAT product an insurance coverage standard (Category I CPT code), confirming that the Company’s product may be used as a commercial clinical product. The Company’s WatchPAT product was also granted reimbursement code 95800 (“reimbursement code”) effective as from January 2011. The reimbursement code is used for medical reporting and expense reimbursement (in whole or in part) to physicians / patients for tests and medical treatments with approved reimbursement 25     codes. AMA set the recommended reimbursement amount for Code 95800 at $206 per test (on average). Note that as of the report date, the actual average reimbursement amount by CMS for code 95800 is $178. This decision had no effect on the volume of home testing as of 2010, but in later years, sales of WatchPAT in the U.S. market grew (for more information see the Company’s consolidated financial statements as of December 31, 2014, enclosed as part C of this Annual Report). Note that this reimbursement code is not unique to the Company’s WatchPAT product, but is also used for other devices designated for diagnosis of sleep disorders through home testing - provided that they comply with the same criteria defined for the reimbursement code. Many private insurers have adopted the reimbursement code - at amounts ranging between $170-350 per test, depending on the state and the insurer. In February 2011, the American Academy for Sleep Medicine (“AASM”) published qualification standards for diagnosing sleep disorders in adults outside sleep laboratories7, whereby AASM officially recognized the CPT code which includes the technology on which the Company’s WatchPAT product is based, as an approved method for diagnosis of Sleep Apnea. This recognition by AASM is further to the adoption process of home testing (compared to the previous practice of testing at sleep laboratories) by various entities and is likely to further support the effort to turn home sleep testing into a common standard among private insurers in the U.S., too. Furthermore, a technical evaluation of home testing devices published in 2011 concluded that the WatchPAT device is as acceptable like other devices in the field of Sleep Apnea diagnosis8. It should be noted that some significant insurance companies, mainly in California and Massachusetts, do not cover Code 9500. Blue Cross Blue Shield is the largest among those companies. Insurance coverage in Japan for use of EndoPAT In January 2014, the Company reported that it had obtained approval for import of WatchPAT into Japan, from the Ministry of Health, Labor and Welfare (the “approval” and “MHLW”), the entity at the Japanese Ministry of Health responsible for approval of innovative technologies as qualifying for reimbursement, that as from January 1, 2014, the WatchPAT product is listed as an approved technology for diagnosis of Sleep Apnea and as such it is eligible for reimbursement at JPY 7,200 (approximately $60) (the “reimbursement amount”). Reimbursement is provided to 7 8 www.aasmnet.org/resources/pdf/OCSTstandards.pdf (Feb. 2011) Journal of Clinical Sleep Medicine, Vol. 7, No. 5, 2011 (www.ncbi.nlm.nih.gov/pmc/articles/PMC3190855/) 26                                                                   any medical institution which conducts testing for diagnosis of sleep breathing disorder, as ordered by a physician. To the best of the Company’s knowledge, the WatchPAT device is the only device in Japan, in the reimbursement category for home sleep testing, which does not require the measuring of nasal air flow. 8.2 EndoPAT EndoPAT2000 is a non-invasive, mobile device, user independent and simple to operate, used in testing for endothelial dysfunction and arterial rigidity. The Company markets its EndoPAT2000 product both for primary prevention of a first heart attack and for secondary prevention in symptomatic patients or those with a heart condition at high risk of repeat cardiac events and who suffer from various symptoms. The EndoPAT2000 is also sold for clinical trials in the drug development process and for other research use. In 2013 and 2014, the EndoPAT2000 has met certain milestones which promote the transition from sales mainly to research institutions, as heretofore, to a stage of commercialization and marketing, principally through distributors, for widespread clinical use. This transition is in line with the Company’s strategic plan. The major geographic markets in which the EndoPAT is marketed are North America, Japan and Israel. The list price of the EndoPAT system is approximately $27,000. The Company also offers rental or leasing plans in North America, in order to facilitate the purchase of its product. For further details of the rental model for the Company’s products, see Section 31.3.3 below. Size of the diagnostic testing market for diagnosis and cardiac illness risk assessment According to AMA, in the U.S. alone there are approximately 83 million people at high risk of, or suffering from, a heart disease. All these people constitute the target market for EndoPAT tests. Insurance coverage in the U.S. for use of EndoPAT2000 In July 2013, AMA granted a Category III CPT code for insurance reimbursement for the non-invasive procedure for testing of endothelial function using the Company’s EndoPAT product. A Category III CPT code is designated for emerging technologies, allowing U.S. physicians to claim reimbursement by medical insurers (while not requiring insurers to approve such claims), pending receipt of a Category I CPT Code which stipulates an agreed reimbursement. 27     in accelerated penetration of commercial markets In general, the insurance coverage amount for a category III code is not approved and requires proactive application to insurers. Receiving a reimbursement code is a key the U.S. The factor aforementioned reimbursement code is effective as from January 1, 2014 and the Company is acting to have it adopted by insurers and to obtain as many reimbursement claims as possible in order to obtain a Category I reimbursement code. The Company is unable to estimate if and when the Category I reimbursement code will be received. in Notwithstanding the foregoing, the Company is unable to assess the implications of setting the reimbursement amount as noted above due, amongst others, to the absence of a set schedule for code adoption by private insurers (who use AMA reimbursement codes) and there is no guarantee as to the reimbursement amount. It should also be noted that the reimbursement amount set by AMA may change after approval, due to unexpected changes in government funding for the healthcare system. Insurance coverage in Japan for use of EndoPAT In Japan, citizens and permanent residents are required to have healthcare insurance. There are two major types of healthcare insurance in Japan. One is the Employees’ Healthcare Insurance, designated for employed Japanese citizens (“EHI”) and the other is the National Healthcare Insurance (“NHI”), designated for Japanese citizens who do not fulfill the criteria for inclusion under EHI. In November 2011, the Company was informed by the NHI organization that the organization has initially set reimbursement for NHI patients for testing using the Company’s EndoPAT product, at 2,000 Japanese yen per test (approximately $17). This amount is valid for both NHI and EHI patients, but only for patients with symptoms. 8.3 Sensors / probes (thimbles) The PAT sensor developed by the Company is offered in two configurations for testing performed using the Company’s different products: the ED (pneumatic) sensor configuration, used for testing endothelial function; and pneumonia-optic sensor configuration for WatchPAT, used in testing for sleep breathing disorders. In addition, the Company uses a standard oxygen saturation meter (oximeter sensor) in its WatchPAT device. Advanced PAT sensors – Unified Probes Recently, the Company received the approval of the FDA, the CE, the Israeli Ministry of Health and the Canadian Ministry of health for the use of a new upgraded 28     version of the sensor for the measuring of the PAT signals and for measuring blood oxygen saturation by the WatchPAT device using a unified probe. Heretofore, the oxygen saturation was measured by a separate oximeter attached to another finger of the same hand. The PAT sensors are designed for a single use. Their list price (as of the date of this report) ranges from $20 for EndoPAT sensors (each test requires two sensors at a total cost of $40) to $55 for WatchPAT sensors (each test requires one sensor at a total cost $50). These sensors must be replaced prior to each test - which is why they are sold separately from the Company’s products. The Company’s revenues from sales of sensors in the reported year accounted for about 40% of total Company revenues (the remaining 60% were derived from sale of ancillary services, such as support and warranty services, WatchPAT and EndoPAT products and ancillary products). 8.4 Total Sleep Solution (“TSS”) In January 2015, the U.S. subsidiary launched the TSS family of products and services. TSS which provide a complete Sleep Apnea management solution to cardiology medicine (clinics and departments in hospital-based environments). The TSS changes the Company's business model and shifts it from a manufacturer and seller of medical devices to a complete service pathway provider, including products, education and services throughout the patient care pathway. The solution includes: (i) home testing using the WatchPAT device; (ii) use of CloudPAT solution for interpreting the WAtchPAT test results for physicians and physician networks; (iii) Service Agreements with Independent Diagnostic Testing Facilities (“IDTF”) for patient diagnostic services using the WatchPAT device for physicians and/or medical facilities which do not have the WatchPAT device; and (iv) Service agreements with Durable Medical Equipment (“DME”) service providers for the therapeutic device deployment. The Company remains the hospital or practice interface throughout the process and manages the solution for the customer, securing the use of its products and services. The TSS has three types of products or services to address the main unmet needs of the customers: 8.4.1 EasySleep - Hospital or practice refers all eligible patients to TSS for Obstructive Sleep Apnea (“OSA”) diagnosis and, when needed, therapy. All OSA services are provided by referral to the proper IDTF and DME. The referring hospital or physician is informed about the progress and patient 29     compliance; however, it is not involved in the ownership or billing and reimbursement process and does not benefit financially from it. 8.4.2 BalancedSleep - Hospital or practice purchases the equipment (the WatchPAT device) and the logistical solution from the Company and serves as the prescription and billing party. The Company provides all logistical and medical devices solutions directly and through its network. The hospital pays for devices, sets up billing and receives reimbursement from insurers. 8.4.3 MaxSleep - Hospital or practice purchases the WatchPAT devices from the Company and executes the entire process, including some components of TSS such as interpretation and sometimes DME management. The Hospital or practice pays only for products, and not for services, retaining more operational revenue. 8.5 Planned improvements to existing the Company’s products: 8.5.1 General: The Company intends to develop its PAT technology to serve as a including assessment of platform for other medical applications, cardiovascular indicators other than endothelial dysfunction. 8.5.2 WatchPAT device: The Company is reviewing additional applications to make the device relevant for extended indications and new markets (lowering the minimum age for use of the device, diagnosis of other parameters related to sleep breathing disorders). In September 2014, the Company commenced the development of its WatchPAT product so as to adapt it for diagnosing children and toddlers. This includes a smaller version of the device and a sensor suitable for young ages, the development of software and algorithms, and ancillary accessories. At present children and toddlers must be tested for sleep breathing disorders in hospital laboratories; the new development will make it possible to diagnose children and toddlers at home. 8.6 Trends and changes in demand for the Company’s products For information about trends and changes to demand for the Company’s products in the reported period, see Section 4 (Statement of Operations Analysis) of the Board of Directors’ report enclosed as Part B of this Annual Report. 30     8.7 Information regarding marketing approvals obtained from authorized regulators Below is information about marketing approvals obtained from authorized regulators for the Company’s products: 31     Name of approved product WatchPAT 200U Date of first approval May 30, , 2014 8.7.1 The Company’s products approved by the “FDA”9: Approval process Approval number Equivalent product Indication on documents filed with FDA Traditional K133853 WP200S-3 to have sleep The WatchPAT200U (WP200U) device is a non- invasive home care device for use with patients related breathing suspected disorders. The WP200U is a diagnostic aid for the detection of sleep related breathing disorders, sleep staging (Rapid Eye Movement (REM) Sleep, Light Sleep, Deep Sleep and Wake), snoring level and body position. The WP200 U generates peripheral arterial tonometry (PAT) Respiratory Disturbance Index (“PRIDI”), Apnea-Hypopnea index (“PAHI”), PAT sleep standing identification (PSTAGES) and optional snoring level and body position discrete states from an external integrated snoring and body position (SBP) sensor. The WP200U’s PSTAGES and SPB provide supplemental information to its PRDI/PAHI. The WP200U’s PSTAGES and SBP are not intended to be used as the sole or primary basis for diagnosing any sleep related breathing disorder, prescribing treatment, or determining whether additional diagnostic assessment is warranted. 9 The table excludes The Company’s products which received FDA approval and which were replaced by a newer model, including WatchPat™100 products (originally approved by the FDA in 2001 and withdrawn from FDA records on January 1, 2013) as well as previous generations of WatchPat™200 (originally approved by the FDA in 2008). 12 All indications in this table are a concise translation for convenience of the indication - which is originally in the language of the country in which approval was granted. For the sake of clarity, note that the binding indication is the one originally published in the language of the country in which approval was granted. 32                                                                     WatchPAT 200 S-3 June 2, 2011 Traditional K102567 1.Itamar WatchPAT200S- 510(k) 2, K081982 2.Braebon Ultima Snoring Mike 0540,K020312 3.Embla, K971813 EndoPAT2000 November 12, 2003 Traditional 510(k) K032519 1. Itamar PAT® 1000 RD K001852 2. Standard Procedures used for endothelial dysfunction evaluation: -The Intra-coronary Acetylcholine (Ach) Challenge method (“Gold Standard”) -The method of Flow Mediated Dilation (FMD) response to reactive hyperemia of the brachial artery 33 The WatchPAT200S-3 (WP200S-3) device is a non-invasive home care device for use with patients suspected to have sleep related breathing disorders. The WP200S-3 is a diagnostic aid for the detection of sleep related breathing disorders, sleep staging (Rapid Eye Movement (REM) Sleep, Light Sleep, Deep Sleep and Wake), snoring level and body position. The WP200S-3 generates peripheral arterial tonometry (PAT) Respiratory Disturbance Index (“PRIDI”), Apnea-Hypopnea index (“PAHI”), PAT sleep standing identification (PSTAGES) and optional snoring level and body position discrete states from an external integrated snoring and body position (SBP) sensor. The WP200S-3’s PSTAGES and SBP provide supplemental information to its PRDI/PAHI. The WP200S-3’s PSTAGES and SBP are not intended to be used as the sole or primary basis for diagnosing any sleep related breathing disorder, prescribing treatment, or determining whether additional diagnostic assessment is warranted. The EndoPAT device is a non-invasive device intended for use as a diagnostic aid in the detection of coronary artery endothelial dysfunction (positive or negative) using a reactive hyperemia procedure. The EndoPAT has been shown to be predictive of coronary artery endothelial dysfunction in the following patient population: patients with signs or symptoms of ischemic heart disease, who are indicated for coronary artery angiography, but who lack angiographic evidence of obstructive coronary artery disease. The device is intended to be used in a hospital or clinic environment by competent health professionals. The EndoPAT device is not intended for use as a screening test in the general patient population. It is intended to supplement, not substitute, the physician’s decision-making process. It should be used in conjunction with knowledge of the patient’s history and other clinical findings.       8.7.2 The Company’s products granted the CE mark: Name of approved product Date of first approval Approval period Approval number Notified Body Indication10 WatchPAT200 June 2008 10, October 11, 2019 316 CE EndoPAT2000 January 29, 2003 October 11, 2019 316 CE Intertek AMTAC For description of the indication, see description for FDA. Intertek AMTAC For description of the indication, see description for FDA. 8.7.3 The Company’s products listed in the Registry of Approvals for Medical Accessories and Devices kept by the Israeli Ministry of Health (“MDA”): Name of approved medical device Indication 4 MDA approval number Date of first MDA approval Approval period EndoPAT2000 Diagnosis of endothelial function in the vascular system. 6690002 February 17, 2004 December 31, 16 WatchPAT200 WatchPAT200U for home use without Device medical supervision which provides and an diagnostic sleep breathing disorders. analysis for automated assistance Device for home use without medical supervision which provides and an diagnostic sleep breathing disorders. analysis for automated assistance 6690402 (6690001) March 2009 24, September 30, 2017 6690402 December 28, 2014 September 30, 2017 10 All indications in this table are a concise translation for convenience of the indication - which is originally in the language of the country in which approval was granted. For the sake of clarity, note that the binding indication is the one originally published in the language of the country in which approval was granted. 9525/1255/3567153/1                                                                   8.7.4 The Company’s products approved by a qualified regulator in another territory which is a material target market: The WatchPAT product Country Regulatory authority Date of first approval Approval period Approval number Indication11 Canada Health Canada Renewabl e annually. 86745, 87677, 87675, 87676 November 17, 2011 (except for approval # 86745 granted on July 27, 2011) Canada Health Canada January 1, 2015 94546 Renewabl e annually. The WatchPAT200 device is a non- invasive home-use device for use with patients suspected to have sleep related breathing disorders. The WatchPAT200 device is used to assist in diagnosis of sleep breathing disorders, sleep stages (Rapid Eye Movement (REM) Sleep, Light Sleep, Deep Sleep and Wake), snoring level and body position. WatchPAT200 generates a Peripheral Respiratory Disturbance Index (“PRDI”), Apnea- Hypopnea index (“PAHI”), PAT sleep staging identification (PSTAGES) and an external probe to measure snoring level and body position. The device’s PSTAGES and SBP measures provide complementary information to PRDI / PAHI and are not intended to be used as the sole or primary basis for diagnosis of any sleep-related breathing disorder, prescribing treatment, or determining whether additional diagnostic assessment is warranted. The device is not intended for use by those under 17 years of age. The WatchPAT200U device is a non- invasive home-use device for use with patients suspected to have sleep related breathing disorders. The WatchPAT200U device is used to 11 All indications in this table are a concise translation for convenience of the indication - which is originally in the language of the country in which approval was granted. For the sake of clarity, note that the binding indication is the one originally published in the language of the country in which approval was granted. 35                                                                 Country Regulatory authority Date of first approval Approval period Approval number Indication11 assist in diagnosis of sleep breathing disorders, sleep stages (Rapid Eye Movement (REM) Sleep, Light Sleep, Deep Sleep and Wake), snoring level and body position. WatchPAT200U generates a Peripheral Respiratory Disturbance Index (“PRDI”), Apnea- Hypopnea index (“PAHI”), PAT sleep staging identification (PSTAGES) and an external probe to measure snoring level and body position. The device’s PSTAGES and SBP measures provide complementary information to PRDI / PAHI and are not intended to be used as the sole or primary basis for diagnosis of any sleep-related breathing disorder, prescribing treatment, or determining whether additional diagnostic assessment is warranted. The device is not intended for use by those under 17 years of age. Japan Japan Ministry Of Health August 9, 2013 No expiration date Shonin 22500BZ X0033900 0 WatchPAT200 is used to support the assessment/diagnosis of sleep breathing disorders and sleep stages in hospitals or at home, for patients suspected of suffering from sleep breathing disorders. Korea Korea Food and Drug Administrati on November 11, 2009 No expiration date 09-1162 WatchPAT200 records a medical signal during sleep and is used for diagnosis of Sleep Apnea. Respiratory events, snoring and body position during sleep are recorded and stored in the memory of this mobile device. 36   The EndoPAT product Country Regulatory authority of Date first approval Approval period Approval number Indication12 Canada Health Canada October 28, 2004 Renewable annually. 66319 For description of the indication, see description for FDA. Japan Japan Ministry Of Health July 7,, 2009 China State Food and Drug Administration March 1, 2011 No expiration date. Through February 12, 2020. Shonin 22100BZX00816000 Reg. No: SFDA (I) 20112210684 No. 1008926 EndoPAT device for measuring and recording endothelial reaction of blood vessels. EndoPAT is designated for non- invasive diagnosis of endothelial function. The EndoPAT2000 testing was approved for populations with symptoms of coronary ischemia or symptoms which may require angiographs of the coronary arteries. This definition applies to all hospitals or healthcare professionals in the clinical environment. This is a complementary test as part of the physician’s decision making process, together with the patient’s medical history. 9. Composition of revenues from products and services For information about composition of revenues from the Company’s two, products, see Note 5 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 10. New products The Company is focused on improvement and development (including development of new, information about planned advanced versions) of improvements and new indications for existing Company’s products, see Section 8.5 above. The Company has been engaged in research and development of the PAT signal and PAT technology, as well as development of products and applications (based on this technology). its existing products. For more 11. Customers Major customers for the WatchPAT products are: cardiologists, distributors, research institutes, independent medical centers in the private sector, hospitals, and physicians 12 All indications in this table are a concise translation for convenience of the indication - which is originally in the language of the country in which approval was granted. For the sake of clarity, note that the binding indication is the one originally published in the language of the country in which approval was granted. 37                                                                 involved with treatment of sleep disorders (such as dentists and otolaryngologists) and sleep laboratories. Major customers for the EndoPAT products are: distributors, research institutes, and independent medical centers in the private sector, hospitals, pharmaceutical companies and researchers in this field. 11.1 Agreements with material customers Master agreement for sale of products and services to a Material Customer - on September 30, 2007, the subsidiary signed a master agreement with a Material Customer (the “Customer”) for sale of the Company’s WatchPAT product, the zzzPAT software and ancillary devices and for provision of ancillary services for these products to Customer A and to related entities. On November 15, 2013, the agreement was extended through October 31, 2015. Total Company’s revenues from this customer in the years ended December 31, 2014 and 2013 amounted to $2,564,000 and $2,056,000, respectively or 16% and 15%, respectively, of total Company’s revenues for these years. For information about the Company’s material distributors, on which the Company is dependent so that their loss would have a material negative impact on the operating segment or would cause the Company to incur material additional cost due to the need to replace them - see Section 11.1 above. Also see Section 29 below with regard to co- operation agreements signed by the Company and third parties with regard to use of the Company’s products. 11.2 Below is information about Company sales by customer type (dollars in thousands): Customers Pharmaceutical companies Research institutes Clinical 2014 1,021 2013 154 2012 992 1,891 1,427 1,501 13,475 11,756 10,933 12. Marketing and distribution 12.1 Overview The major markets in which the Company currently operates are the U.S., Japan and China. The Company selected these markets for being the largest, most advanced markets in the world with appreciation for and use of the Company’s technology, and because the Company’s limited marketing and distribution resources require it to focus 38   on lucrative markets where the Company has an advantage over other vendors. The Company believes that the markets it has selected allow for efficient marketing with limited resources and a simpler sales process. Furthermore, the Company has selected Israel as a center of excellence for conducting additional clinical trials and gaining more experience in deployment of its technology within work processes. For financial information regarding geographical regions, see Note 5 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. Distribution and marketing of the Company’s products are based on two channels: direct sales channel (through representatives of the Company or its subsidiaries) and indirect sales through distributors. It is Company strategy to join forces with manufacturers of medical equipment or specific distributors who specialize in relevant market segments, who would market the Company’s products to physicians, clinics and hospitals who would use the Company’s products for clinical treatment needs, while continuing direct sales (by Company representatives). In general, agreements with distributors include sales commissions and, in some cases, commitment by these distributors to achieve certain business and marketing targets and/or certain minimum sales - in return for which the Company grants them exclusivity in their region and/or operating segment. The Company intends to continue closely monitoring the progress and success of its marketing strategy in order to allow the Company, if needed, to make adjustments to its marketing and sales strategy. 12.2 Agreements with distributors The Company typically enters into distribution agreements with various distributors who are Company customers, for distribution of its products to end users in specific geographical regions or to specific market segments (e.g. marketing to clinics with a specific specialization). The term of such agreements is typically between 1 and 5 years, with optional extension. However, in most cases, these distribution agreements may be terminated by 30-60 days’ advance notice for various reasons listed in these agreements. Some of the Company’s agreements with distributors stipulate that the distributor would be an exclusive distributor for the Company’s products in the specific region for that agreement. The Company warrants its products for the longer of: (i) 12 months from product sale to the end user; (ii) 14 months from the Company invoice date to the distributor; and (iii) the minimum statutory or regulatory warranty period in the region where the agreement is applicable (in Europe, warranty is typically for a 24-month term). The warranty covers components, work and delivery to the customer, as well as replacement as deemed necessary by the Company. The warranty also covers remote support 24 hours a day and seven days a week. The customer is to meet Company requirements regarding proper use, storage and transport of the Company’s products and the said warranty is only valid provided Company requirements are met and the product is used properly. 39   Distribution agreements typically stipulate a minimum annual quota of products which the distributor is required to purchase, as well as product prices payable by the distributor to the Company. These agreements include provisions to safeguard confidential information and proprietary rights of the Company with regard to its products and PAT technology. The distribution agreements stipulate that the Company would indemnify the distributor in case of any breach of proprietary rights of any third party and in any case where a third party may incur damage due to negligence by the Company. Accordingly, the distributor would indemnify the Company in any case where a third party may incur damage due to any deed or omission or breach of agreement by the distributor. The Company does not accept returns of products sold, except in cases where products are supplied to customers for a predetermined and agreed-upon limited trial period or when the return was approved in advance by special approval of the Company marketing manager. 12.3 Material distributors 12.3.1 Exclusive agreement for distribution in Japan - with Philips Respironics GK - in February 2014, the Company entered into a distribution agreement with Philips Respironics GK (“Philips”), the local Philips subsidiary in Japan, which markets diagnostic and treatment solutions for the sleep market. According to the distribution agreement, Philips is licensed by the Company as the exclusive distributor of the Company’s WatchPAT product and ancillary accessories in Japan. The distribution agreement includes customary provisions for such agreements with regard to minimum sales quotas to safeguard exclusivity, intellectual property rights, and Company warranty for the products during the warranty period etc. The term of the distribution agreement with Philips is up to five years, renewable by mutual consent. The Company considers Philips to be a strategic distributor since it is one of the two largest companies in the world for products for diagnosis and treatment of sleep breathing disorders and is the exclusive distributor of WatchPAT in Japan 12.3.2 Marketing agreement with Medtronic Inc.13 (“Medtronic”) – in March 2014, the Company entered into a marketing agreement (the “Agreement”) with Medtronic, a world-wide leader in cardiological technology. As part of the Agreement, Medtronic and the Company are to market WatchPAT as part of a comprehensive solution to be offered by Medtronic to physicians specializing in cardiological electro-physiology in the U.S. The Agreement gives the companies exclusive rights to market WatchPAT to physicians in the U.S. (the “Territory”) who specialize in cardiological electro-physiology and arrhythmia 13 Medtronic is the parent company of Medtronic International Technology Inc. Note that Medtronic holds 19.93% of the Company’s issued and paid-in share capital and is considered, for the sake of caution, to be the controlling shareholder of the Company, for all intents and purposes. 40                                                                 and the parties may agree on expansion of the Territory. The Company retains the right to enter into agreements with other companies for other market segments. The Agreement includes a commitment by Medtronic to make a specified investment in marketing as well as minimum sales quotas. The Agreement term is 43 months. The first six months of the Agreement constitute a pilot period, after which the Agreement would be in effect for another three periods (one period of 13 months and two additional periods of 12 months each) - unless either party should decide to terminate the Agreement. In September 2014, the Company announced that the six-month pilot period would be extended for six months (making the total pilot period one year) to enable the parties to complete the process of building and entrenching the overall solution. Moreover, the “initial period” set out in the Agreement (the 13 months following the pilot period) was extended so as to encompass the pilot period as well. For more information about the Agreement, its scope and commitments by the Company and by Medtronic – see the immediate reports issued by the Company on March 5, 2014 and September 30, 2014 (reference numbers: 2014- 01-005622 and 2014-01-166029, respectively). The Company considers Medtronic to be a strategic distributor since it is a leader in its field and focuses on cardiology, as does the Company. 12.3.3 Three-year exclusive distribution agreement with Nihon Kohden Corporation (“Nihon Kohden”) – in June 2014, the Company entered into an agreement with Nihon Kohden (the “Agreement”), which is to purchase EndoPAT2000 systems and auxiliary products from the Company and sell them to customers in Japan, including general practitioners and hospitals. Nihon Kohden specializes in production, development and distribution of electronic medical devices in Japan. Its international activities include branches in the U.S., Europe and Asia and working with distributors on other markets. It had an annual sales turnover of over $1.3 million in 2013. The Agreement is for a three-year period and it gives Nihon Kohden exclusive rights to sell EndoPAT2000 systems in Japan, provided the stipulated order quota is met in each of the years, in adherence with the prices set in the Agreement and that the following obligations are met: confidentiality, intellectual property, mutual reimbursement, employment of arbitration to settle disputes and provisions for early termination of the Agreement in case of breach and/or insolvency and/or change in the control of one or the other of the parties. The Company considers Nihon Kohden to be a strategic distributor because it is the exclusive distributor of EndoPAT2000 in Japan. 12.3.4 Exclusive distribution agreement with Beijing Viable Medical Investment Co. Ltd. (“BVMI”) – in November 2014, the Company entered into an agreement with BVMI (the “Agreement”), under which, commencing January 1, 2015, 41   BVMI is to be the sole distributor of EndoPAT in China, provided the minimum sales quotas stipulated by the Agreement are met. Under the Agreement, which is for 76 months, BVMI is to purchase EndoPAT2000 systems and auxiliary products from the Company and sell them to customers in China, including general practitioners and hospitals. As of the date of this report, the Company cannot determine whether BVMI will meet the minimum sales quotas stipulated by the Agreement and whether actual sales resulting from the Agreement will have a material impact on its revenues. The Company considers BVMI to be a strategic distributor because it is its exclusive distributor in China. 12.3.5 Agreement with Arterial Health International LLC (“AHI”) for representation and distribution in the U.S. – in March 2015, the Company entered into representation and distribution agreements (the “Agreements”) with AHI. Under the representation agreement, AHI is to be the sole service provider in ten states in various parts of the U.S. for cardiovascular examinations performed using the EndoPAT2000 device on customers under the cardiovascular examination package provided by AHI. Under the representation agreement, AHI has undertaken to fulfil minimum purchase quotas in each of the years 2015 – 2017. The minimum purchases, if materialized, will not make AHI a major customer14. For further details, see the Company's immediate report of March 3, 2015 (2015-01-045556) It should be noted that the distributors working with the Company do not have the right to return surplus products. However, when the Company finds that a certain distributor is accumulating an inventory of the Company’s products, the Company considers the situation and in some cases may decide not to recognize revenues from sales to that distributor, even though the distributor has no right to return surplus products. For information about the Company’s material customers, see Section 11.1 above. Also see Section 29 below with regard to cooperation agreements signed by the Company and third parties with regard to use of the Company’s products. 12.4 The Company’s marketing operations The Company’s marketing operations include: (i) education and sponsorship of educational activities; (ii) market education and development - for new indications for existing products; (iii) attending and hosting professional conferences - the Company invests resources in promoting its products among physicians in various segments, as well as to pharmaceutical and medical equipment companies around the world; to this end, the Company attends professional conferences in order to increase public 14 Based on the Company's 2014 sales data. 42                                                                 awareness of the medical implications of endothelial dysfunction and the importance of early diagnosis in order to improve the prognosis for patients already diagnosed with a heart condition; (iv) professional publications; (v) advertising videos on TV; (vi) articles published in the press and in digital media; (vii) direct mailing; (vi) telemarketing; (ix) clinical and technical support for customers; (x) the Company’s website; (xi) Company representatives regularly meet current and potential customers to review product improvements; (xii) marketing and promotion of applications for the Company’s products to researchers and experts who may influence public opinion in the relevant fields; (xiii) product management - the Company continues to develop and improve its current products, based, amongst others, on feedback received from current and potential customers; (xiv) co-operation with customers who are leading physicians in the fields of cardiology, internal medicine, integrative medicine (combining conventional and alternative medicine); and (xv) employing marketing consultants and reimbursement consultants in the U.S. for identifying trends and developments in relevant markets. The Company also employs professional consultants for assistance in penetrating the market with its products. The Company’s professional and consulting team consists of experienced professionals and researchers in the Company’s fields. This team assists the Company in the manufacturing process, in consulting and in marketing efforts of the Company’s products. 13. Order backlog As of the report date, the Company has no order backlog. It should be noted that under some agreements with distributors/marketers the latter undertake to purchase a minimum annual quantity of the Company's products (In this section the “undertaking”). Failure to fulfill the undertaking allows the Company to abolish the exclusivity of the distributor/marketer, or even the entire agreement therewith. The Company does not treat such undertaking as order backlog until actual orders are received. 14. Competition 14.1 Overview As of the report date, there are several competitors who market systems and/or services which may provide a complete or partial solution for the cardiology field in various countries in which the Company does business - primarily in the U.S. and Japan. As of the report date, the Company is unable to estimate its market share for its operating segments. 14.2 Company’s competitors for WatchPAT 14.2.1 Sleep laboratories using Polysomnography testing (“PSG”) – is the most common test currently available for diagnosis of sleep disorders (recent estimates claim that two thirds of sleep tests in the U.S. are currently conducted at sleep laboratories - and this rate is even higher in Japan). Advantages: PSG 43   includes all information channels required for diagnosis of sleep breathing disorders (7-20 channels, such as: eye movement, chest movement, leg movement, pulse, sleep position etc.) and is therefore highly functional; some PSG systems include video filming of the patient; this test is non-invasive. Disadvantages: PSG requires the patient to be connected to multiple electrodes, which impacts the patient’s sleep and may therefore impact the test efficacy; it requires the patient to stay at the sleep laboratory, along with a technician, for one night or longer; is it considered an expensive test - its cost is $700 per patient in the U.S. (although this is mostly reimbursed to the patient by the insurer). PSG systems are made by several companies, including: Respironics (merged into Philips Medical), Embla, Nihon Kohden, Viasys Healthcare, Puritan Bennett, , Cadwell Laboratories, Cleavemed, Stellate Healthcare, Grass Technologies (a subsidiary of Astro-Med Inc.), and others. The cost of a PSG device is between $15,000 and $25,000. Note that the market for PSG device manufacturing includes many competitors and to the best of the Company’s knowledge, no manufacturer has a market share of 20% or more. 14.2.2 Manufacturers of mobile systems for diagnosis of sleep breathing disorders - there are several in target market mobile systems for diagnosis of sleep breathing disorders available in the Company’s target markets. Advantages: These are partially mobile, hence they do not require over-night sleep at the sleep laboratory and patients may operate them in the home environment; the test is non-invasive; the price of these systems is lower than that of a PSG system and ranges between $2,500 and $7,000. Disadvantages: Operating these systems is not simple and requires training; the patient cannot move about during the night with these systems; they contain relatively few PSG channels (between 4-7) (for information about test channels, see Section 14.2.1 above) and therefore have an inferior functionality; some do not include EEG monitoring and therefore are incapable of monitoring the patient’s actual sleep time (in case of extensive waking time during the night) or their sleep patterns. Quite a few PSG manufacturers, including Respironics, Resmed, Philips, Compumedics, Embla and others, also compete in the market for mobile systems. 14.2.3 Manufacturers of screening devices - screening devices are used for preliminary testing, prior to diagnosis of sleep breathing disorders, or before (and for the purpose of) providing assessment with regard to surgical intervention for resolving sleep breathing issues. The commonly used screening devices are oxygen saturation meters (Pulse Oximetry) and air flow meters. Advantages: Low cost, compared to mobile and Polysomnography systems - between $1,000 and $2,000 in the U.S.; mobile and simple devices to operate, may be operated by testing. Disadvantages: Contain few testing channels (1-2, compared to 6 channels for the Company’s product) and therefore have an inferior functionality. Moreover, some were found to be un-acceptable for sleep testing based on AASM independently; non-invasive the patient 44   criteria15. Manufacturers of screening devices who are significant competitors of the Company include: ARES, ApneaLink, Stardust, Nox, Braebon, Clevemed, and Embletta. 14.3 Company’s competitors for EndoPAT To the best of the Company’s knowledge, there is no specifically designated device for assessment of endothelial function which has been approved in the U.S. However, a complex test is possible based on ultrasound equipment. To the best of the Company’s knowledge, its EndoPAT2000 product is the first FDA-approved product for assessment of endothelial function, allowing for early discovery and diagnosis of heart conditions by non-invasive means. As of the date of this report, the U.S. company Endothelix Inc. (“Endothelix”) claims to be able to diagnose the endothelial layer by measuring changes in temperature in fingers. To the best of the Company’s knowledge, Endothelix has published few articles in scientific journals and its products were approved by the FDA (translation of this approval mentions “vascular reaction” and does not explicitly approve this system for assessment of endothelial function). Indirect competitors of the Company for the EndoPAT product are: 14.3.1 Ultrasound device manufacturers - ultrasound devices are capable of measuring endothelial dysfunction of the brachial artery in the hand. This technique is named FMD (for Flow Mediated Dilation). Advantages: Allows for obtaining information about changes to artery size, which form an indication of proper blood flow; non-invasive; and these devices have been used for a very long time and are available at nearly every hospital. Disadvantages: Use of the ultrasound device requires highly skilled operators; test results are operator-dependent and interpretation is interpreter-dependent; device sensitivity to changes is low; ultrasound systems are costly ($30,000- 250,000 per system). To the best of the Company’s knowledge, ultrasound testing of endothelial function is not common place for clinical use. 14.3.2 Invasive testing - to the best of the Company’s knowledge, the only accurate technique currently available for assessment of endothelial function is invasive and is performed in angiographic surgery. This technique is used to measure blood flow in reaction to injection of ACH (acetylcholine). Advantages: Highly accurate. Disadvantages: Invasive, and therefore dangerous for the patient; expensive - at a cost of $3,000. To the best of the Company’s knowledge, invasive testing is performed at only a few centers around the world, primarily for research purposes. 15 Journal of Clinical Sleep Medicine, Vol. 7, No. 5, 2011 (www.ncbi.nlm.nih.gov/pmc/articles/PMC3190855/) 45                                                                 14.3.3 Diagnostic angiography or virtual angiography - two major tests are commonly used in the secondary prevention market, or designated for symptomatic patients with symptoms such as Angina Pectoris: ECG and invasive diagnostic angiography. Both tests allow for diagnosis of non- obstructive coronary artery disease, whereas EndoPAT testing was proven as a test which can diagnose both types - including the type not diagnosed by angiography. 14.3.4 Methods of assessing arterial rigidity - there are methods for assessment of arterial rigidity in patients, which allow the physician to assess cardiovascular risk. These methods are based on analysis of blood flow speed (blood flows faster the more rigid the arteries) or on measuring returned waves. Manufacturers of devices used for assessing arterial rigidity include HDI, Hypertension Diagnostics Inc. and AtCor Medical - maker of Sphygmocor. Advantages: Non-invasive. Disadvantages: Despite the existence of a certain connection between endothelial dysfunction and arterial rigidity, it is typically assumed that these conditions are not correlated. To the best of the Company’s knowledge, since these methods are not specific to assessing endothelial dysfunction, they are not commonly accepted as a practical tool for such use. 14.3.5 Other diagnostic methods - existing methods for diagnosis of cardiovascular disease include, as of the report date, the following: Medical imaging systems (stress tests combined with medical or ultrasonic imaging, eco-cardiographs etc.), scanners for assessing levels of calcium deposits in arteries (EBCT), a sonographic test of the carotid arteries for evaluation of arterial wall thickness (CIMT), ECG systems for evaluation of cardiac function and various blood tests (such as CRP tests) and systems for monitoring blood oxygen saturation in the finger, such as Angioscan. These methods are intended to provide a risk assessment for future cardiovascular events, assessment of heart and/or artery condition following a cardiovascular event that has already occurred and for diagnosis of various cardiovascular diseases. Advantages: Fairly accurate and mostly non-invasive. Disadvantages: Use of these methods requires fairly expensive medical equipment, some require radiation and a high skill level on the part of the examiner. In addition, the level of sensitivity is mostly low and, to the best knowledge of the Company, these methods are usually particularly effective for diagnosing cardiovascular diseases and/or events as stated, usually at a relatively advanced stage of the disease and/or event. They are appropriate for obstructive heart diseases - but are unsuitable for diagnosis of micro- vascular heart conditions or those of a type not resulting from arterial obstruction - but rather from the arteries being incapable of extending as needed. Preliminary screening for assessing the risk of cardiac events or cardiovascular disease, as noted, is performed based on existing risk factors, such as: cholesterol and hypertension. However, according to published 46   studies16, these risk factors do not fully reflect the risk of cardiac events, and in fact 60% of all subjects in the study (88,000 men suffering from chronic heart disease - CHD) were found to have only one of these risk factors, or none at all. 14.4 In order to address the competition for the Company’s products, the Company invests substantial resources in development of additional features for its products. For instance, features were added to the WatchPAT device, allowing it to distinguish between sleep and wakefulness and also to identify the patient’s sleeping stages (deep- sleep stage, light sleep and REM sleep stages) and probes which make it possible to quantify the intensity of snoring and to determine the body position during sleep. Furthermore and subject to technology and budget constraints, the Company intends to invest resources in future in order to develop additional diagnostic capabilities of its products, based on the PAT technology (diagnosis of other sleep disorders, development of additional medical applications in cardiology and in other medical fields). 14.5 Tabular disclosing advantages and disadvantages of competing products for WatchPAT 17 The following table provides disclosure of properties of the Company’s WatchPAT product for sleep breathing disorders, compared to competing ambulatory products. Note that the significant advantage of the Company product over other competing ambulatory products listed below - is the reimbursement code (95800) assigned to the Company product which provides CMS reimbursement of $170 per test – more than 10% higher than reimbursement for testing using the competing home-testing products. 16 Prevalence of Major Modifiable Risk Factors in Men with CHD, Khot, et al. JAMA. 2003 17 According to sleepreviewmag.com- December 2011 47                                                                 Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 WatchPAT Itamar Medical Ltd. 4,500 One year Type III 7 CMS reimbursement ranges between $120-240 per test (varies by geographical region and socio-economic rating of the region). AMA set average reimbursement codes amounting to $97 (code 95801) How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) Non-invasive. May be used independently. 18 19 Type II is a product with at least 7 recording channels, including: EEG, EOG, EMG, ECG and heart rate, air flow and oxygen saturation, which calculates sleep stages and calculates the AHI (Apnea-Hypopnea Index) for Apnea. Type III is a product with at least 4 recording channels, including: 2 respiratory channels (breathing or air flow) as well as heart rate or ECG measurement oxygen saturation. Type IV is a product which measures three or more parameters. CMS states that these devices should have the ability to measure at least 3 parameters, but does not state which ones. Insurance reimbursement varies by state in the USA, by region (within each state) and by CMS vs. AMA institutions. Therefore, in some regions AMA institutions allow for higher reimbursement than CMS institutions - and vice versa. 9525/1255/3567153/1                                                                   Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) and $206 (code 95800) per test20, although it is uncertain whether private insurers would adopt these reimbursement codes and is so - at what amount (for more information, see Section 8.1 above). The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the Non-invasive. May be used independently. Non-invasive. May be used Braebon Medical Corporation Advanced Brain 2,750 One year Type III 3,500 One year Type III 7 4 The test covered by reimbursement code 95800 also includes measurement and reporting of sleep time. Tests which do not measure this parameter are covered by reimbursement code 95801. 49 Medibyte Jr ARES 20                                                                 Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 Research Easy ApneaTrak Cadwell Laboratories Inc. 4,500 One year Type III and IV 9 Nox T3 CareFusion 4,000 Two years Type III 14 SleepView CleveMed 3,500 One year Type III 7 average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) independently. Non-invasive. May be used independently. Non-invasive. May be used independently. Non-invasive. May be used independently. Somte Compumedic 4,495 One year Type III and IV 13 The reimbursement code for this product Non-invasive. May be used 50   Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 s Embletta Gold Embla 3,500 Two years Type III 9 in/14 out SleepTrek3 Grass Technologies 3,995 3 years Type III 6 Trex Natus Medical Inc. No information available about this parameter One year Type II 24 51 is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) independently. Non-invasive. May be used independently. Non-invasive. May be used independently. Non-invasive. May be used independently.   Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 Nomad Nihon Kohden 4,675 (including probes, software and training tape) One year Type III 12 OxyHolter with LX Sleep Northeast Monitoring 3,795 Three years (option - two additional years) Type III (OxyHolter /A) 6 NovaSom Home Sleep Test NovaSom Inc. No information available about this parameter No information available about this parameter Type III cardio- respiratory monitor 5 Alice PDx Philips Respironics No information available about this parameter Two years Type II, III, IV 20 52 The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) Non-invasive. May be used independently. Non-invasive. May be used independently. Non-invasive. May be used independently. Non-invasive. May be used independently.   Product name Company name Cost (in dollars) Warranty Product type18 Number of channels Reimbursement availability19 ApneaLink Plus ResMed 2,490 (including ancillary products for 3 training sessions) Two years Type III 4 SOMNOscreen Plus SOMNOmed ics Depends on channel configuration Two years Type I-IV 1-58 is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. The reimbursement code for this product is 95806 and the average reimbursement for it is $186 per test. How device is used (invasive or non-invasive, independent, with assistance from another person, only by a physician etc.) Non-invasive. May be used independently. Non-invasive. May be used independently. The Company is not aware of any side-effects and/or dangerous effects of using any of the medical devices listed in the above table. The Company believes that duration until test results are obtained, using the aforementioned medical devices, is irrelevant - since all of these products are capable of producing results within a relatively short time. 53   15. Seasonality There is no significant seasonality in Company sales in its operating segment. 16. Production capacity To the best of the Company’s knowledge, its sub-contractors have no short-term manufacturing restrictions relative to the Company’s manufacturing needs. Below is information about potential and actual utilized manufacturing capacity for the Company’s products: No. Product Annual potential Utilization of production capacity (%) Comments 1 WatchPAT200 Unlimited Unlimited The Company uses sub-contractors for manufacturing of sub-assemblies based on Company specification, with the Company currently performing assembly, final testing, packaging and delivery of its products. Sub-assemblies are assembled by the sub- contractors. Assembly, final testing and packaging are performed by the Company. The product is supplied by a sub-contractor, tested and packaged according to Company specification - including logistics / material procurement, assembly, final testing and product packaging. If needed, the Company has all the knowledge and is fully capable of independently manufacturing EndoPAT2000 - from logistic procurement through to final testing and product packaging - at Company facilities. Additional quality control procedures are performed on Company premises. Sub-assemblies are assembled by the sub- contractors. Assembly, final testing and packaging are performed by the Company. Sensors for WatchPAT200 360,000 units 45% EndoPAT2000 Unlimited Unlimited Sensors for EndoPAT2000 490,000 units 44% 2 3 4 5 The Company has no limitation on manufacturing capacity. Analysis and data processing software enclosed with products. * Annual potential based on a single 12-hour shift; this potential should grow based on the number of shifts operated in future. 9525/1255/3567153/1     ** A probe kit per test using the EndoPAT2000 device includes two sensors. For more information on Company assessment of the effect of loss of business relationship with one of its sub-contractors and with regard to dependence on suppliers and sub- contractors, see Section 21 below. 17. Fixed assets, land and facilities As of the publication date of this report, The Company’s operations are based in Israel (management, research and development, production, marketing and sales) from Company offices at 9 Halamish Street, Northern Industrial Zone, Caesarea (with an area of 1,371 square meters) (the “offices”). The Company leases the offices pursuant to a lease dated July 2007 (as amended in December 2008) from the Caesarea Property Corporation for payment of monthly rent which, as of the date of this report, amounts to approximately NIS 80,000 (linked to the Israeli Consumer Price Index) (the “lease”). The lease term is five years (i.e. through January 2019). Each party may terminate the lease in certain cases of breach by the other party. As collateral to secure the lease, the Company has provided a bank guarantee amounting to NIS 400,000 against which it has pledged in favor of Bank Hapoalim, as of the report date, an NIS-denominated deposit amounting to NIS 400,000. 18. R&D Expenses 18.1 Research and development activities and results thereof Since its inception, the Company has been engaged in research and development of the PAT signal and PAT technology, as well as development of products and applications (based on this technology) in its operating segment. In order to conduct research and development activities, the Company has development teams in the following areas: hardware, software, algorithms, data processing and clinical application development. Since its inception, the Company has initiated research and clinical co-operation for: (i) Consolidating the science underlying the products developed and marketed by the Company; (ii) continuous improvement and development of these products; (iii) achieving recognition among the medical community through scientific publications. As of the date of this report, the Company is involved in research activities conducted at academic centers in the U.S., Europe and Japan - such as Harvard University, Mayo Clinic and Mount Sinai Hospital. The Company also cooperates with researchers and institutions conducting large scale population-based studies, such as the FHS (Framingham Heart Study) and the Gutenberg-Heart Study (PREVENT-it). Through the date of this report, the Company has financed its investment in research and development primarily from its own resources and by raising funds from the public. 55   18.2 Research and development expenses and grants Year 2014 2013 2012 R&D expenses (dollars in thousands) R&D expenses recognized as intangible asset (dollars in thousands) 2,017 1,893 2, 148 - - 28 Development grants received by the corporation and their repayment terms 18.2.1 The Chief Scientist of the Ministry of Economy: 18.2.1.1 Through the report date, the Company had two programs approved by the Chief Scientist of the Ministry of Economy (the “Chief Scientist”) - one from September 2003 to August 2004 and the other from September 2004 to August 2005), which were defined as programs for development of a non-invasive and easy-to-operate system for diagnosis of endothelial dysfunction (development of EndoPAT3000 product). For these two programs, the Company has received grants amounting to NIS 3,770,000 through the report date21. Below are details of grants which the Company received from the Chief Scientist and has yet to repay: Name of medical device for which grant was received from the Chief Scientist Total grants received from the Chief Scientist as of the report date (dollars in thousands)* Grant repayment terms and schedules Special conditions stipulated by the Chief Scientist with regard to grants and/or repayment terms thereof Development of non- invasive, easy to operate system for diagnosis of endothelial dysfunction EndoPAT3000 Development of non- invasive, easy to operate system for diagnosis of endothelial dysfunction EndoPAT3000 437 409 See Section 18.3.1.2.2 below Royalty payment at 3%-5% See Section 18.3.1.2.2 below Royalty payment at 3%-5% 21 The Company had grants approved amounting in total to NIS 3,800 thousand. 56                                                                 * No grants were received in 2012-2014. 18.2.1.2 General terms and conditions for certificates of approval The balance of principal and interest with respect to future liabilities of the Company to repay the Chief Scientist, on the financial statements as of December 31, 2014 amounted to $851,000 and $135,000, respectively. The various certificates of approval issued to the Company by the Chief Scientist (the “certificate of approval”) stipulate conditions which the Company is required to fulfill, in conformity with provisions of the Industrial R&D Promotion Law, and regulations based thereon, including the following: 18.2.1.2.1 The Company undertook to inform the Chief Scientist of any change of 25% or higher in holding of Company shares and/or any of the following means of control of the Company: (a) voting rights at General Meetings of the Company’s shareholders; (b) right to appoint directors of the Company; (c) right to participate in the Company’s earnings. Transfer of such means of control to a foreign resident or to a foreign company which would make the foreign resident or foreign company an interested party, as defined in the Securities Law, is subject to notification of the Chief Scientist and to a written commitment by the foreign resident or to a foreign company, in conformity with provisions of the Industrial R&D Promotion Law. 18.2.1.2.2 The Company has undertaken to pay royalties to the State Treasury out of all revenues with respect to products, single-use devices, spare parts and software for testing of endothelial dysfunction and to submit all reports, in conformity with provisions of Industrial R&D Regulations (Royalty Rates and Payment Rules), 1996 and with procedures of the Industrial R&D Administration. Royalties range between 3%-5% of future sales of these products up to full repayment of the grant, linked to the dollar and bearing LIBOR interest, as updated from time to time22. The grants from the Chief Scientist were granted for development of the EndoPAT3000 product. Accordingly, 22 According to Regulation 2(e) of Industrial R&D Regulations (Royalty Rates and Payment Rules), 1996, the royalties payable to the State Treasury range between 3%-5%, based on the repayment start date. 57                                                                 the Company undertook to pay the Chief Scientist royalties from any future sales. As of the date of this report, the Company expects it would complete development of the EndoPAT3000 product and/or unique technology thereof in 2015; however, the Company reviews from time to time the viability of completing development of the EndoPAT3000. Royalties with respect to sales of the EndoPAT3000 product and/or unique technology thereof between 2015 and 2017 should fully cover, according to Company estimates, its commitment to the Chief Scientist - should development of the EndoPAT3000 and/or its unique technology indeed be completed in 2017. It should be noted that the Company has a dispute with the Chief Scientist with regard to the source of revenues for which the Company is liable to pay royalties to the Chief Scientist. According to the letter of commitment signed by the Company with regard to grants received from the Chief Scientist, the Company must pay royalties on all its sales of cardiology products, i.e. for sale of various EndoPAT products, not only on sales of the EndoPAT3000 product and/or unique technology thereof. After consulting with experts, Company management believes it is not required to pay royalties on all its sales EndoPAT devices - but only on sales of products resulting from unique technology supported by Chief Scientist funding. The product for which the Company has actual sales since 2004 is EndoPAT2000, which does not include technology supported by Chief Scientist funding. This matter is under negotiation with the Chief Scientist. For more information about commitments to the Chief Scientist, see Note 26a to the Company’s consolidated financial statements for the year ended December 31, 2014, presented in Part C of this Annual Report. 18.2.1.2.3 The Company has undertaken not to transfer to any party the knowledge, rights there to and production rights resulting from research and development according to the approved programs, without consent from the Research Committee. 18.2.1.2.4 The certificates of approval stipulate that should the Company be convicted of any violation of intellectual property laws of the State of Israel by a final, conclusive verdict - the Investment Center may retroactively rescind 58   the benefits granted to the Company pursuant to the Industrial R&D Promotion Law and may demand repayment of linkage differences. the grants with interest and As of the date of this report, the Company is in compliance with all terms and conditions of the certificates of approval and believes it would be able to continue being in compliance with them in future. Furthermore, as of the date of this report, the Company has made all of the required investments pursuant to the certificates of approval and has no future obligations pursuant there to. 18.2.2 Grants from other sources The Company has received an initial grant of approximately 50,000 Euros from the Horizon 2020 project of the European Union for development of a clinical trial plan for iMUC (Investigation Management of Unexplained Chest Pain). The goal of this trial is to prove that EndoPAT aids in making treatment of patients with chest pain without significant diagnostic catheterization findings more efficient and improves clinical results, as well as patients’ acceptance of treatment and the lifestyle changes recommended by their physicians. 18.3 Clinical trials The following table provides disclosure of trials conducted by the Company, directly or indirectly through any party on behalf thereof, during the reported period. It should be noted that both WatchPAT and EndoPAT were FDA approved in the U.S., received the CE mark in Europe, the Department of Instruments and Accessories in Israel and in other countries; also note that the clinical trials listed below are in connection with development of new indications for WatchPAT and EndoPAT or for validation of the outcome of use of the Company’s products compared to other products, so as to assist the Company in obtaining approval from regulatory authorities in other countries in which the Company intends to market its products in the future. 59   Medical institution where trial is to be conducted (geographi c location of sites where trial is to be conducted) Carmel Medical Center Carmel Medical Center Berlin, Charite Hospital. Planned number of trial patients Number of trial patients through the prospect us date 100 98 patients 50 10 30 49 Mayo Clinic 150 150 Trial name Development stage in which trial was conducted IND/ IDE opened for this trial? Clinical trial objective Number of sites where trial is to be conducted Carmel Post-validation of WatchPAT device No Carmel – Children Validation of WatchPAT device No Professor Thomas Penzel Post-validation of WatchPAT device No EndoPrivent Post-validation of WatchPAT device No Development, validation of WatchPAT device No Oxymetry measureme nt using unified probe 1 1 1 1 1 Validation of home sleep testing vs. over-night sleep testing at sleep laboratory Reduce age limit for device from 17 to 12 by validation vs. over-night sleep testing at sleep laboratory Comparison of home sleep testing using WatchPAT to testing using a different home test (Embletta) Comparison of assessment of ischemia using angiography to EndoPAT testing Series of trials for development, evaluation and proving accuracy of blood oxygen saturation with 50-100 70 Comparative Concluded Clinimark Desaturation Laboratory Louisville, Colorado. Trial nature and status Schedule Expected cost (estimated, in dollars) Accrued cost (in dollars) Final results/ interim results Comparative, concealed interpretation , Concluded Comparative, double blind, In process Comparative, double blind, cross over Concluded Comparative Double blind Concluded Concluded 10,000 4,000 Isamar’s SBP probe is validated 6,000 1,000 Final results have yet to be received Started in November 2012. Expected conclusio n in 2015. Concluded 9,000 9,000 87,000 87,000 80,000 80,000 Trial started in 2011 Concluded Series of trials concluded in May 2014 Demonstrated WatchPAT advantage over Embletta in home sleep testing. Article is in the process of being written. Results were presented at the annual convention of the German sleep medicine association. Article is in the process of being written The unified probe met the applicable ISO80601-2-61:2011 requirements The revised product was approved by the 9525/1255/3567153/1     Trial name Development stage in which trial was conducted IND/ IDE opened for this trial? Clinical trial objective Carmel WP200U Post-validation No WatchPAT using unified probe and custom algorithms Performance comparison of two configurations of the WatchPAT device Number of sites where trial is to be conducted Medical institution where trial is to be conducted (geographi c location of sites where trial is to be conducted) Planned number of trial patients Number of trial patients through the prospect us date Trial nature and status Schedule Expected cost (estimated, in dollars) Accrued cost (in dollars) Final results/ interim results 1 Carmel Medical Center 150 50 Comparative FDA in May 2014 11,000 4,000 Final results show high correlation between the devices. First patient recruited in October 2013. Completed in 2014. WP200 in children Data collection for development. None Data collection 1 100 19 Chicago University - Comer Children Hospital Comparative On-going, expected to continue through 2015 10,000 3,000 In process 61   19. Intangible Assets 19.1 Overview The Company has knowledge with regard to product development in its domains (based on the PAT technology) including, amongst others, information, know-how, data, knowledge, intellectual property, drawings, technical specifications, software, algorithms, a list of potential customers and plans. The Company acts in as much as possible to protect its business interests and any other knowledge with regard to its products and business by registering patents and trademarks in various countries around the world and invests substantial resources to do so. The Company also enters into non-disclosure agreements with third parties who are exposed to the Company information, in whole or in part, including its suppliers, sub-contractors, employees and customers. 19.2 Shrink-wrap agreements All the Company’s products are sold under license agreements and shrink-wrap agreements, which incorporate stipulations restricting use of the products solely for the purposes set out in the operating manuals. With respect to some the Company’s products, the shrink-wrap agreements include stipulations that, in absence of express consent by the Company, prohibit the use of data generated by or resulting from use of the Company’s products for the purpose of filing applications for regulatory approvals required for drugs or other medical products. The aforementioned restrictions prescribed in the license and the shrink-wrap agreements concerning the use of the Company’s products, are made possible due to the broad protection obtained for PAT signal and PAT technology by the large number of patents owned by the Company. 19.3 Ownership agreements, intellectual property license and independent development The Company has received Shonin approval (a regulatory approval for importing and marketing medical equipment in Japan) and MAH approval (authorized distributor approval from healthcare authorities in Japan) with regard to import and sale of EndoPAT in Japan by the Company’s Japanese subsidiary. With respect to these approvals, the Company created an intangible asset valued at $350,000, which is amortized over a seven-year period. 19.4 Patents Most of the patents owned by the Company and most of the patent registration applications filed by the Company typically protect the Company’s intellectual property, from a number of aspects, including its 62   PAT technology (possible methods for measuring the PAT signal), PAT signal (manner of analyzing the signal features) and the application (protection of the Company’s products). Below are details of patents wholly owned by the Company and patent applications filed by the Company as of the publication date of this report. 19.4.1 As of the date of this report, the Company has material registered patents as follows: Patent name Patent description Method and apparatus for the non- invasive detection of medical conditions by monitoring peripheral arterial tone. Method and apparatus for non- invasively evaluating endothelial Parent application. Describes physiological PAT signal, proprietary apparatus for its measurement, and major medical applications. Umbrella patent Provides a physiological description of the PAT signal, proprietary apparatus for its unique signal measurement method, and major medical applications. In-depth description of PAT signal and apparatus for application to endothelial Patent rights (ownership, usage rights or other rights) Wholly owned by the Company under its former name - Itamar Medical (CM) 1997 Ltd. Expected expiration date Patent number Countries in which granted July 23, 2017 732592 2260142 97196857-8 200310123725- 69739061-6 0926980 0926980 3971457 512290 333378 2220653 AU CA CN CN DE FR GB JP KR NZ RU US Wholly owned by Itamar Medical Ltd. October 22, 2021 (Only in the U.S. – February 8, 2022) 6319205 2002214210 2424389 154833 4049671 6939304 AU CA IL JP US 63   Patent name Patent description activity in a patient. Non- invasive probe for detecting medical conditions. function measurement. In-depth description of PAT signal and apparatus for application to endothelial function measurement. Further PAT probe variations. Additional variations for PAT probe. Patent rights (ownership, usage rights or other rights) Expected expiration date Patent number Countries in which granted Wholly owned by Itamar Medical Ltd. March 26, 2022 (Only in the U.S. – August 8, 2022) 244197 1372467 60239923-8 1372467 1372467 1372467 1372467 4116444 1372467 1372467 7374540 CA CH/LI DE FR GB IE IT JP NL SE US 64   19.4.2 As of the date of this report, the Company has material patent applications pending as follows: Patent name Patent description Patent rights Method and apparatus for non- invasively evaluating endothelial activity in a patient Non- Invasive Apparatus And Method For Determinin g Sleep Stages Wholly owned by Itamar Medical Ltd. Wholly owned by Itamar Medical Ltd. In-depth description of PAT signal and apparatus for application to endothelial function measurement . In-depth description of PAT signal and apparatus for application to endothelial function measurement . Facilitates differentiat ion between deep and light sleep Facilitates differentiat ion between deep and light sleep. Expected expiration date Advancement date Application filed on October 22, 2021 October 23, 2000 October 22, 2001 Countries in which application was filed EP May 2026 26, April 2008 14, April 2009 13, HK CA CN (allowed) EP (allowed) IN RU US Typically, the patent duration is set at 20 years from date of application for patent recording. During the protection period the patent owner is required to pay maintenance fees in some countries. Payment dates for patent maintenance fees vary from one country to another. It should be noted that the patent registered by the Company for the PAT signal (which is a unique technology developed by the Company on the 65   basis of which it has developed its products in the field of sleep breathing disorder diagnosis and in the field of cardiology) will expire in July 2017 and there are likely to be significant consequences for the Company, should any entity start to develop PAT based products to compete with the Company’s existing products. It should be noted that notwithstanding the foregoing, the Company’s products make use of additional custom technologies (other than the PAT signal), the patents for which have not yet expired (with regard to the WatchPAT product, this refers to a patent expiring in 2022, except in the U.S. where it expires in 2024); with regard to the EndoPAT product, this refers to a patent expiring in 2021, except in the U.S. where it expires in 2024) (the “supplementary patents”) and the Company believes that the existence of these supplementary patents will make it more difficult to develop PAT based products to compete with Company. It should be noted that there is no certainty that patent recording applications submitted by the Company will result in a patent grant and/or that no attempts will be made by third parties to refute recorded patents of the Company or to demand their cancellation. Furthermore, the mere registration of a patent does not prevent the Company’s competitors from producing identical products to those of the Company, in a manner which may impact the Company’s capacity to compete in the market. In such case, the Company may sue such infringing competitors for infringing on the Company’s registered patents. 19.5 Trademarks As of the report date, the Company has filed applications for registration of the following trademarks: EndoPATTM, WatchPATTM, EndoSCORETM and ItamarTM in countries listed in the table below. In some countries, approval had been received by the report date (see table below). The Company believes that should it fail to register the requested trademarks in its name, this may materially impact its financial results. This is due to the fact that through the report date, the Company has operated (and still does) in those countries without any registered trademarks. The status of trademarks shortly prior to publication of this report: Country Trademarks (status and expiration year) U.S. PATTM REG (2020) REG (2021) Allowed EndoPAT™ WatchPAT™ EndoScore™ Allowed Canada Europe REG (2026) REG (2025) REG (2017) REG (2017) REG (2023) Application recorded Itamar™ Application recorded 66   Country Trademarks (status and expiration year) EndoScore™ Application recorded Itamar™ Application recorded Japan China India USSR Mexico Korea PATTM EndoPAT™ WatchPAT™ REG (2018) REG (2018) REG (2023) Application recorded Application recorded Application recorded REG (2023) Application recorded REG (2023) REG (2023) REG (2024) Under prosecution REG (2024) Singapore Application REG (2024) REG (2024) recorded REG = Registered Trademark. 19.6 The Company believes its success depends, to a large extent, on its ability to protect its intangible assets and intellectual property as described above, in particular the PAT technology, on which the Company’s products are based. 19.7 Costs invested in major intangible assets and their carrying amounts as assets on the financial statements 19.7.1 Expenses for patent maintenance and registration since Company inception through the report date amount to $1.6 million. 19.7.2 In recent years, the Company has capitalized expenses amounting to $220,000 with respect to its Bracelet product (accessory for the WatchPAT product which enables patient identification) and Cloud PAT (an online platform for use of cloud storage and processing technology). Upon completion of development and the Company discontinued start of capitalization of expenses with regard to this development. Total capitalized expenses are depreciated over a 3-year term, based on expected future benefit from this development. commercial sales, 20. Human resources 20.1 Organizational structure Following is a chart describing the Company’s organizational structure as of the publication date of this report: 67   President and CEO VP Global Marketing VPs U.S. Subsidiary VP Sales - Rest of the World Chief Technology Officer VP R&D VP Engineering and Operations CFO (IT and Legal) Director of Business Development President Japanese Subsidiary 20.2 Headcount VP Advanced R&D 2014 2013 Sales and marketing 31 Support for sales and marketing Management, HR, IT and finance Operations and production 12 22 43 Engineering & research 11 24 7 18 46 10 Total 119 (of which 7 officers) 105 (of which 6 officers) The number of Company employees, as of December 31, 2014, has increased by 13% since December 31, 2013. The increase in headcount was primarily in sales and marketing and in support for sales and marketing, due to the Company’s focusing on sales in the U.S. and in Japan, in conformity with its new strategic plan. As of the date of this report, the Company has no material dependence on any employee. However, should Dr. Jacob Sheffy, the Company’s Chief Technology Officer, quit the Company’s employ, this might cause the loss of significant knowhow and experience and slow down future development of the Company’s products, as well as collaboration with third parties relating to the Company’s products. 68   Subsequent to the report date, on January 22, 2015, the Company’s Board of Directors, having received the consent of the Compensation Committee, approved a performance-based monthly pay increase of up to $21 thousand for all employees of the Company and its subsidiaries, of which $3 thousand – to officers who have held their positions at least a year, as specified in Section 9 of Part D of this Annual Report. 20.3 Advisory Board In addition to the Company’s staff, Board of Directors and Board committees, the Company also has an Advisory Board, composed of world-renowned experts in their fields, who advise the Company with regard to clinical and research use of The Company’s products as well as on matters concerning insurance reimbursement and support from professional organizations in the U.S. Members of the Advisory Board are: (i) Prof. Amir Lerman, who is Co-chair for Academic Affairs at the Cardiovascular Division of Mayo Clinic; (b) Prof. Peter Gantz, who is the chief of cardiology at San Francisco General Hospital of the University of California (UCSF); (ii) Prof. Michael Shechter, Head of Clinical Research at the Heart Center, Sheba Hospital, Tel Hashomer, Israel; (f) Professor Peter Collins, Head Director of Cardiology at Brompton Hospital of Imperial College, London: Prof. Kirk N. Garratt, Head of the Invasive Cardiology Department of the North Shore-LIJ Health System in New York; Prof. Binoy K. Singh, Head of Cardiology at the Lenox Hill Hospital in New York. 20.4 Company investment in training The Company invests resources in training its employees for their various roles, from the date they are recruited and throughout their employment with the Company. Some employees, such as production employees, are required to be certified for their job. During their employment period, employees are sent to attend external workshops and professional courses as required, and in addition the Company conducts internal training and courses for professional groups delivered by company representatives and/or by external instructors as required. 20.5 Compensation plans for employees and Board members, 1997 and 2003 20.5.1 Overview - On April 9, 1997, the Company Board of Directors approved the compensation plan (the “First Plan”) to provide incentives to employees. On December 29, 2003, the Company Board of Directors approved a further stock option plan for Company employees (the “Second Plan”), effective through December 31, 2013. 69   As of the date of this report, the Company no longer grants options under the First Plan or the Second Plan. 20.5.2 Vesting period - On November 30, 2000, the Company Board of Directors resolved to revise the vesting period for options granted pursuant to this plan, whereby the vesting period would be four years. As of the report date, all options granted under the First Plan and the Second Plan have fully vested. 20.5.3 Exercise period - Options granted under the First Plan may be exercised for shares through the tenth anniversary of their grant date (the “exercise period”). 20.5.4 Contract termination - The plan includes provisions concerning termination of the grantee’s employment agreement with the Company, including in case of termination for cause, death, disability or retirement; the plan stipulates the period in which the grantee may exercise the remaining vested options after their termination date. 20.5.5 Adjustments - According to the plan, upon occurrence of any of the events listed below, the grantee’s right to exercise their options would be adjusted in conformity with the mechanism set forth in the plan, which is designed to ensure that grantees’ rights would not be impacted by occurrence of these events: (i) bonus share distribution; (ii) rights issuance; (iii) change to the Company’s capital; (iv) dividend distribution; (v) merger. 20.6 Compensation plan for Israeli employees, 2007 Below is a summary description of plan highlights. For more information see Chapter 3 of the outline issued by the Company on March 2, 2014 (reference: 2014-01-003498) and the Company’s immediate reports of August 14, 2014 (reference: 2014-01-134136) and of August 31, 2014 (reference: 2014-01-146286) regarding revision of vesting terms and measurement of meeting the preconditions for the vesting of options issued to employees and officeholders, in Israel and abroad. 20.6.1 Overview - On February 19, 2007, the Company’s Board of Directors approved a new stock option plan as incentive for the Company’s employees and Board members (the “2007-1 Plan”). The plan is subject to the capital gain taxation path through a trustee, in conformity with Section 102 of the Income Tax Ordinance, 1961 and regulations based there upon. 20.6.2 Exercise price of options - The options are offered to grantees at no charge; the exercise price would be set by the Company’s Board 70   of Directors and would be listed in the grant letter, provided it is not less than the par value for a single Company’s share. 20.6.3 Vesting period - As noted in the grant letter. 20.6.4 Exercise period - After the tenth anniversary of the grant date, all unexercised options shall expire and shall not confer on the grantee any right whatsoever. 20.6.5 Adjustments - According to the plan, upon occurrence of any of the events listed below, the grantee’s right to exercise their options would be adjusted in conformity with the mechanism set forth in the plan, which is designed to ensure that grantees’ rights would not be impacted by occurrence of these events: (i) bonus share distribution; (ii) rights issuance; (iii) change to the Company’s capital; (iv) dividend distribution; (v) merger. 20.7 Compensation plan for U.S. employees, 2007 Below is a summary description of plan highlights. For more information see Chapter 3 of the outline issued by the Company on March 2, 2014 (reference: 2014-01-003498) and the Company’s immediate reports of August 14, 2014 (reference: 2014-01-134136) and of August 31, 2014 (reference: 2014-01-146286) regarding revision of vesting terms and measurement of meeting the preconditions for the vesting of options issued to employees and officeholders. 20.7.1 Overview - On February 19, 2007, the Company Board of Directors approved a stock option plan to provide incentives to Company employees, consultants and service providers who are U.S. residents (the “grantees” and the “2007-2 Plan”). 20.7.2 Option exercise price – The options are granted to grantees at no charge; the exercise price would be set by the Company Board of Directors and would be listed in the grant letter to the grantee, provided it is no less than par value for a single Company’s share. 20.7.3 Option vesting period - The vesting period would be listed in the grant letter and is subject to statutory provisions in the U.S. with regard to the vesting period, as they may be at that time. 20.7.4 Exercise period - After the tenth anniversary of the grant date, all unexercised options shall expire and shall not confer on the grantee any right whatsoever. 20.7.5 Adjustments - According to the plan, upon occurrence of any of the events listed below, the grantee’s right to exercise their options would be adjusted in conformity with the mechanism set forth in 71   the plan, which is designed to ensure that grantees’ rights would not be impacted by occurrence of these events: (i) bonus share distribution; (ii) change to the Company’s capital; (iii) transaction as defined in the plan (in general terms, this is a merger or a transaction for sale of a major part of operations). 20.7.6 20.8 Below is a summary of information about options pursuant to the aforementioned compensation plans, as of March 23, 2015: As of March 23, 2015, a total of 27,463,753 options have been allotted, shares, constituting convertible approximately11.07% of the Company’s issued and paid-in share capital, fully diluted, as follows: into 27,463,753 Company ordinary The 1997 plan, 1998 plan and 2003 plan The first 2007 plan The second 2007 plan Total: 9,315,054 34,717,970 6,724,050 50,757,074 125 159 72 299 Number of option granted Number of grantees Exercise price range NIS 0.01 – NIS 8.03 NIS 0.01 - 2.34 NIS 0.23 - 2.50 5,717,825 8,367,055 791,021 14,875,901 1,645,604 4,476,487 2,295,329 8,417,420 1,951,625 21,874,428 3,637,700 27,463,753 Options exercised Options returned / cancelled / expired Remaining options granted and not yet exercised (excluding options returned / cancelled / expired) 72   The 1997 plan, 1998 plan and 2003 plan The first 2007 plan The second 2007 plan Total: 1,951,625 8,713,671 1,150,073 11,815,369 0.79% 8.82% 1.46% 11.07% Vested options out of remaining ones Remaining option as percentage of the Company’s issued and paid-in share capital, on a fully diluted basis23. * Where the exercise price is denominated in dollars, it was converted to NIS at the representative dollar/NIS exchange rate as of March 22, 2015 which was $1 = NIS 4.053. 20.9 Benefits and the nature of employment agreements The Company (and its subsidiaries in the U.S. and in Japan) usually enters into individual employment agreements with employees. The Company signs with its employees using one of two types of individual employment agreements. One is for regular (exempt) employees (including senior officers of the Company) and the other – for hourly employees. As a rule, it is company policy to improve employment terms for its employees subject improvement of employment terms may be reflected by granting additional benefits to employees, such as study funds, stock options, one-time bonus payments, pay raises and longer paid leave. their performance. Such to 20.10 Restructuring In the course of updating the Company’s strategic plan for 2014 onwards, the Company increased its sales staff while reducing staff levels in other areas. For more information about the update to the 23 See footnote 1 in chapter 1 above. 73                                                                 strategic plan, see immediate reports dated October 3, 2013 (reference: 2013-01-157473) and January 29, 2014 (reference: 2014-01-026425). The Company reviews from time to time the need to align its headcount with the state of Company business and global market conditions, primarily in the following areas: marketing, sales and technical support in Israel and in the U.S. This is done in line with growth in the Company’s marketing operations. Furthermore, the Company intends to increase the number of production employees in relation to the increase in production volume and to the ratio of in-house production to production by sub-contractors. 20.11 Compensation Policy On January 14, 2014, the General Meeting of the Company’s Shareholders approved the Company’s officer compensation policy (after approval by the Compensation Committee and by the Board of Directors at its meeting on November 20, 2013), in conformity with provisions of Amendment 20 (“the Compensation Policy”). The compensation policy is valid for three years as from its approval date. For more information about the Compensation Policy, see the Company’s immediate report dated January 8, 2014 (reference: 2013-01-009652). the Companies Law to 20.12 Officers With regard to compensation of the Company’s officers, including waiver, indemnification and insurance, see Sections 9 and 21 of Part D of this Annual Report (“Additional Information about the Corporation”). For information about grant of option to officers, see also Note 27 to the consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 21. Raw materials and suppliers 21.1 Major raw materials used in the Company’s activities and availability thereof The Company’s products are composed of purchased components (“off- the-shelf components”), such as: rugged electronic components and custom made components manufactured for the Company according to a Company-specific specification, such as: injected plastic parts, CNC machined parts etc. Most of these custom components are produced in Israel and the Far East, while off-the-shelf components are produced overseas (U.S., Europe and Asia-Pacific) and purchased by the Company directly from the manufacturer or through Israeli or foreign agents (jointly in this Section: the “suppliers”). 74   Most components may be purchased and delivered within five weeks at most, but some components may require a lead time of up to 14 weeks. The Company prepares in advance for purchasing components with long lead times, by maintaining minimum inventory and/or by signing annual agreements with relevant manufacturers or agents. 21.2 Dependence on raw material supplier - Nonin Medical Inc. (“Nonin”) The Company is dependent on raw material supplier Nonin, engaged in development, manufacturing and sales of a system (with embedded software and a sensor) for measuring blood oxygen saturation (OEM system), used in the WatchPAT product. In conjunction with agreements with Nonin, the Company commits to order a certain volume of products from Nonin under an annual framework order, at a price set forth in the order, reflecting the volume discount to which the Company is entitled. Nonin does not supply components for the new version of WatchPAT (which has been approved in North America and Israel but is still awaiting approval in other markets, including Japan and Europe) which uses the unified probe. Therefore, the volume of following the launching of the new WatchPAT, the use of the old version has declined, and Nonin supplies only components for the manufacture of the previous version, when the need arises, and for servicing customers still using the previous version. The Company purchases from Nonin in 2014 and 2013 accounted for 19% and 18%, respectively, of total Company purchases from suppliers (including sub-contractors). The Company believes that a sudden termination of its agreement with Nonin may impact its capacity to serve customers who are still using the previous version of WatchPAT. However, it is possible that the products will be upgraded to the new version. 21.3 Sub-contractors (providing raw materials which are finished products) The Company has about 16 sub-contractors, who manufacture and/or assemble custom products and/or components for the Company. Contracting with sub-contractors is typically through a framework order, renewable every six months, or by specific order. As of the date of this report, the Company uses multiple sub-contractors concurrently in different geographic regions, so as to reduce its dependence on sub- contractors. Furthermore, available sub-contractors on the market allows for flexibility in choice of sub-contractors and ease of transition from to contracting with another. contracting with one sub-contractor Furthermore, if need be - the Company may transition the final assembly operations to its own facility. 75   21.4 Dependence on sub-contractors The Company is dependent on CPC Solutions Ltd., which assembles the EndoPAT2000 product in accordance with the Company’s technology and instructions and under Company supervision. Company purchases from this sub-contractor in 2014 and 2013 accounted for approximately 7% and 9%, respectively, of total Company purchases from suppliers (including sub-contractors). The Company maintains sufficient product inventory at its warehouses, hence the Company believes that, should contracting with any sub- contractor be disrupted, the Company may use this inventory of finished products and assemble the product at Company facilities while trying to locate an alternate sub-contractor. 22. Working capital  22.1 Summary of composition of the Company’s working capital Current assets of the Group, consisting mainly of cash and cash equivalents, listed securities, trade receivables and inventories) as of December 31, 2014 amount to $23,569,000; current liabilities, consisting mainly of trade payables, current maturities of notes (Series L, provisions, accrued expenses and other accounts payable) amount to $4,712,000; therefore, the Company’s working capital amounts to $18,857,000 (current ratio: approximately 5). The Group’s working capital primarily consists of cash and investments in securities, current maturities of convertible notes, inventories and trade receivables as follows: 22.2 Inventories Average inventories in 2014 declined to approximately $1,150,000. The Company continues to strive to reduce its inventory level on hand at any given time, while maintaining minimum inventory required for its proper level was operations. In approximately $1,432,000, with record sales at $4.5 million. Inventory days in 2014 were at approximately 90 days. the fourth quarter of 2014, inventory The Company maintains raw material inventories based on its annual sales forecast, and maintains sufficient inventory of components with long lead times, such that the inventory in its possession shall be enough to deliver products for one more quarter. For components with long lead time and/or subject to other constraints, the Company maintains an inventory for up to six months’ use. It is Company policy, with regard to inventory of finished products, to maintain, at the start of each calendar quarter, inventory equal to 25% of finished products which the Company would be required to supply in that calendar quarter. Furthermore, the 76   Company anticipates that if contracting with any sub-contractor is disrupted, it may use this inventory until an alternate sub-contractor is located. 22.3 Credit policy As of December 31, 2014 Average credit amount, dollars in thousands Average credit days Customers Suppliers 2,810 Current + 60 days 1,083 Current + 30 days As to doubtful and bed debt, See Note 25 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 23. Investments The Company has no material investments in affiliated companies, partnerships and ventures other than subsidiaries. 24. Financing 24.1 Overview As of the publication date of this report, the Company has convertible notes (Series L), as described below, an outstanding loan of $1.9 million from four major shareholders and a credit facility from a bank, as described below. Below is information about the average interest rate for borrowings in effect during 2014 (convertible notes (Series A) (fully redeemed on February 10, 2014); notes (Series L) as described in Section 0 below; and loans from four major shareholders as described in Section 24.4 below), which are not designated for specific use in 2014: Short-term loans / current maturities Average interest rate Effective interest rate Average principal (dollars in thousands) 1,439 7.5% 11.57% 77 Non- banking Long-term loans Average principal (dollars in thousands) - Average interest rate Effective interest rate - -   Short-term loans / current maturities Average interest rate Effective interest rate Average principal (dollars in thousands) sources (linked to Consumer Price Index) Non- banking sources (not linked to Consumer Price Index) Bank sources - - - - - - Long-term loans Average principal (dollars in thousands) Average interest rate Effective interest rate 14,823 8.82% 26.43% - - - 24.2 Convertible notes (Series A), issued in 2007 On March 13, 2007, the Company allotted NIS 82,948,320 par value convertible notes (Series A. All Series A notes fully redeemed on February 10, 2014. 24.3 Convertible notes (Series L), issued in 2013 the to $20.5 million. Of 24.3.1 During 2013, the Company issued to the public NIS 76,256 thousand par value convertible notes (Series L) for total gross consideration amounting total consideration for this issuance, a total of $3.6 million was received from four interested parties in the Company on said date, who submitted bids to purchase notes as part of the public offering: Medtronic International Technology, Inc., Dr. Giora Yaron, Mr. Martin Grestel and Caremi Partners Ltd. (jointly: the “four interested parties”). The consideration received from the four interested parties was used by the Company for full early repayment of the private loan which the four interested parties had extended to the Company prior to issuing the notes, such that in effect, the private loan was converted to debt with respect to notes, as described in Section 24.4 below. It should be noted that Caremi Partners Ltd. is no longer considered an interested party in the Company as from May 21, 2013. 78   24.3.2 For more information about the notes (Series L), see: (i) shelf offering report dated February 27, 2013 (reference: 2013-01- 049497), including the enclosed Deed of Trust; and (ii) Chapter E the Board of Directors’ report (specific disclosure for of noteholders), enclosed as Part B of this Annual Report. 24.4 Credit facility from interested parties dated 2011 In March 2011, the Company’s Board of Directors approved the credit facility agreement entered between the Company and its then four interested parties (the “credit facility”) For more information see immediate report by the Company dated March 2, 2011 (reference: 2011- 01-067005). The first and second withdrawals under this credit facility, in a total amount of approximately $3.6 million, were made in February 2012 and March 2012. The Company fully repaid the first two withdrawals, as described in Section 24.3.1 above. In February 2014, the Company made the third and last withdrawal, amounting to $1,940,000, on account of the credit facility. The third withdrawal was transferred to the Company in February 2014 (by way of offset of the amount thereof against principal and interest payable by the Company to the four interested parties on February 10, 2014 on account of the Series A notes which held thereby). The third withdrawal bears at annual interest rate of 10.4% (unlinked). The principal for the third withdrawal matures in two equal installments in February of 2017 and 2018. Interest on the third withdrawal is payable on February 10 and August 10 of each year from August 10, 2014 through February 10, 2018. The third withdrawal is subject to all other provisions of the credit facility agreement. For more information about the third withdrawal, see immediate report by the Company dated March 2, 2014 (reference: 2014- 01-002238). As of the date of this report (after the third and last withdrawal as described above has been made), the Company has exhausted all its rights under the credit facility and the credit facility has expired. The credit facility and the withdrawals thereunder were approved as transactions at market terms in conformity with provisions of Section 1(5) of the Companies Regulations (Relief for Transactions with Interested Parties), 2000 (the “Relief regulations”). 79   24.5 Irrevocable undertaking to place a credit facility to the Company – January 2015 In January 2015, the Company received an irrevocable undertaking to place a credit facility of up to NIS 9,058,131 (the “credit amount”), subject to certain conditions, from certain Company’s shareholders: (i) Medtronic International Technology, Inc.; (ii) Itamar Technologies and Investments (1994) Ltd., a company controlled by Dr. Giora Yaron; and (iii) Mr. Martin Grestel, (jointly: the “three shareholders”). The credit facility may be utilized in a single withdrawing from January 2017 to February 28, 2017. Should the credit amount or a portion thereof remain unutilized after February 28, 2017, the facility will expire and the Company will no longer be entitled thereto. The credit, if utilized, will bear interest at the annual rate of 10.4% (unlinked). The principal of any amount drawn will mature in one payment on February 28, 2018. The Company is not obligated to utilize the credit amount and that the resolution to utilize the credit must be adopted subject to any binding legal provisions. For additional details, see immediate report by the Company dated January 25, 2015 (reference: 2015-01-017752). 24.6 Credit facility from bank The Company has a new Israeli shekel credit facility from a bank amounting to NIS 100,000. 24.7 Grants For information about grants from the Chief Scientist and the Company’s obligation to pay royalties to the State Treasury out of certain Company revenues, see Section 18.3 above. 24.8 Below is summary information about material loans and credit facilities of the Company as of March 25, 2015 Loan Loan amount / utilized credit facility (dollars in millions) Terms and conditions of the loan Restrictions applicable to the Company - financial liabilities Annual interest rate Linkage Repayment schedule Restriction on borrowing or restriction which materially increases the cost of raising capital or new debt Notes (Series L) Approximately 19.7 8.65% (unlinked) Principal and interest not linked to any index or See Section 24.3 above. --- 80   Loan Loan amount / utilized credit facility (dollars in millions) Terms and conditions of the loan Restrictions applicable to the Company - financial liabilities Annual interest rate Linkage Repayment schedule Restriction on borrowing or restriction which materially increases the cost of raising capital or new debt Loan from shareholders (2011 credit facility) Approximately 1.8 10.4% (unlinked) currency Principal and interest not linked to any index or currency See Section 24.4 above. --- 24.9 Company’s assessment of need to raise funds The Company reviews from time to time options to raise capital or debt, including through issuance on the TASE in Israel or overseas, or through private placement with investors in Israel and/or overseas. Any funds raised would be designated to enable the Company to realize its growth potential while allowing the Company to support all its other business and financial objectives and liabilities (including note redemption). Company management believes that the Company’s survival over the next 12 months is not contingent on external financing sources in addition to those currently available to the Company including, amongst others, the aforementioned credit facilities. See also see Section 20 to the Board of Directors’ report (projected cash flows for 24 months), enclosed as Part B of this Annual Report 25. Taxation For details, see Note 11 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. In March 2015, the Company was notified by the Income Tax Authority that it intends to perform an audit on the tax years 2010 – 2013. 26. Environmental risk and management thereof 26.1. The Company operates in conformity with provisions of the Work Safety Regulations (Safety and Hygiene in Work with Hazardous Materials in 81   Medical, Chemical and Biological Laboratories), 2001. To this end, the Company established a Safety Committee (the “Committee”) consisting of: (i) its VP Engineering and Operations as the chairman of the Committee, (ii) its Quality Manager, (iii) its Safety Advisor and (iv) its safety trustees. This Committee convenes in accordance with an annual plan prepared by the Safety Manager (in 2014, the Committee convened nine times) to receive updates and to discuss issues requiring its attention; the Committee also ensures that the Company’s operations are in conformity with requirements by the Ministry of Economy, the Ministry of Health and the Ministry of Environmental Protection. The Company is under constant supervision by these ministries and their committees, as well as under supervision by other qualified authorities. These authorities issue and renew the Company’s licenses for its regular operations. 26.2. The Company’s activities with regard to air, water and waste water quality and prevention of soil contamination: A significant portion of manufacturing of the Company’s products is made through suppliers and sub-contractors; the Company’s production activity at its laboratories, located in the Company’s offices in Caesarea, is restricted and primarily focused on: (i) production of the probe for WatchPAT and EndoPAT; and (ii) assembly of WatchPAT sub- assemblies. Consequently, Company operations have no impact on air, water or soil quality. 26.3. As noted in Section 27.7 below, the Company holds a valid business license for conducting its operations at its facility in Caesarea, which was granted after visits to the Company by teams on behalf of the Ministry of Health. In these visits, the team reviewed, amongst others, the Company’s handling of chemicals, plumbing, installed UFR (Unmeasured Flow Reducer) devices and other aspects related to safety and environmental protection. 26.4. The annual costs invested by the Company for compliance with environmental protection provisions applicable to the Company, as well as anticipated costs through 2015 and in 2016 are not material for the Company. 27. Restrictions on and supervision of Company operations 27.1 Operations subject to specific legislation The Company is in compliance with material statutory requirements applicable to the Company in the various countries in which it operates, as listed below. Company operations are subject to compliance with 82   legislation in the State of Israel, due to the fact that the development center and assembly facility for the Company’s products is located in Israel; it is also subject to compliance with standards and administrative guidelines which apply to products sold by the Company it the U.S., Canada, Europe, Asia-Pacific and in other markets in which the Company shall operate in future. The requirements for obtaining permission to sell the Company’s products differ from one country to another, and so does the duration required for testing by the authorities and the cost associated with such testing. Absence of licensing for the Company’s products or services in certain countries would prevent the Company from selling in these countries and consequently may impact the Company’s revenues accordingly. 27.2 U.S. market - the FDA To the best of the Company’s knowledge, based on public information, the FDA is a federal entity under the U.S. Department of Health and Human Services, tasked with protecting the health of the U.S. public by establishing and enforcing high product standards through various regulatory requirements and in conformity with provisions of the Federal Food, Drug and Cosmetics Act (the “FDC Act”). Companies that produce medical devices and intend to market them in the U.S. are compelled to comply with FDA regulatory requirements, as well as other regulatory requirements that may exist in various U.S. states, during and after development, production and marketing process of these medical devices. FDA requirements include, amongst others, manufacturing of medical devices in conformity with quality assurance regulations, obtaining scientific reports with regard to the medical devices, appointment of a U.S. agent and allowing FDA representative’s access to supervise manufacturing processes at the plant. Moreover, the Company is required to adapt its production facilities to FDA requirements, which, similar to the Company’s compliance with requirements of the Quality Systems Registrars (“QSR”), will be periodically reviewed by the FDA. Failure by the Company to comply with FDA requirements, including QSR requirements, may impact the Company’s ability to produce, deliver and/or sell its products. Furthermore, failure to comply with regulatory requirements regarding medical devices may lead to civil and criminal sanctions being imposed on the Company, including issuing a public notice regarding the product, refusal to authorize marketing and sales of new products or revoking the sales and marketing authorization for current products. For further details on the Company’s risk factors related to the need for FDA approval of its products, see Sections 34.4 and 34.9 below. 83   (WatchPAT200 and The Company’s products being marketed EndoPAT2000) have been approved by the FDA. For details see Section 8.7 above . 27.3 European Common Market - CE mark The CE mark is a European standard for products, whereby the manufacturer declares that the product meets the required criteria and technical specifications of the relevant authorities, such as health, safety and environmental protection. The mark enables free trade among EU countries and EFTA countries (Island, Liechtenstein, Switzerland and Norway) and allows law enforcement and customs agencies in European countries not to approve marketing of similar products which do not carry the CE mark. Pursuant to the European Conformity Directive concerning medical devices (Medical Devices Directive - 93/42/EEC), as from June 14, 1993, medical device manufacturers are required to act in accordance with terms and conditions of the European Conformity Directive, whereby a “medical device” is defined as any device or material intended to be used for treating human beings, including diagnosis and treatment. After obtaining the CE mark, companies must successfully pass an annual audit by the Notified Bodies. As of the report date the Company, the Company’s marketed products (WatchPAT200 and EndoPAT2000 and accessories for these products) are CE approved by the regulatory body. For details, see Section 8.7.2 above . 27.4 Canadian market - Health Canada and CSA The Company has obtained approval from Health Canada for its EndoPAT2000, WatchPAT200 and related products. Health Canada is, according to public information, the Canadian authority supervising the marketing and sale of medical products - similar to the FDA in the U.S. and to the Medical Accessories and Devices department in Israel. Furthermore, the Company’s marketed products comply with the Canadian CSA (Canadian Standard Association) standard, which requires compliance with requirements similar to those described previously in relation to the European Common Market’s CE mark (such as safety). In addition, in January 2015, Health Canada approved the innovative and upgraded version of WatchPAT, which contains the unified probe and measures both the PAT signal and blood oxygen saturation. For more information see Section 8.7.4 0 above. 27.5 The market in Japan – PMDA The Company has obtained approval from PMDA (Pharmaceutical Medical Device Authority) in Japan (the parallel entity in Japan to the FDA charged with all import approval for medical equipment and drugs 84   in Japan) for importing and marketing in Japan its EndoPAT2000 product in the cardiology segment. The PMDA approval for import and marketing in Japan of the Company’s WatchPAT200 product in the sleep medicine segment was granted to the Company distributor, Philips (for more information see Section 12.3.1 above). 27.6 Israeli legislation 27.6.1 The Industrial R&D Promotion Law Starting in 2004 and up to the report date, the Company has obtained approval of two Chief Scientist programs related to development of non-invasive, easy to operate system for diagnosis of endothelial dysfunction, under the Industrial R&D Promotion Law. The various approval documents issued to the Company by the Chief Scientist impose different conditions the Company must comply with under provisions of the Industrial R&D Promotion Law and regulations pertaining thereof. For more information see Section 18.3 above. 27.6.2 Medical Devices and Accessories - An MDA is any device, accessory, chemical material, biological or technological product used in medical treatment or required for operation of any device or accessory used in treatment which is not primarily intended as a medicinal influence on the human body (“MDA”). The MDA Department of the Ministry of Health is the authority tasked with granting various import permits for MDA, monitoring marketing of MDA in Israel and approval of MDA clinical trials. All the Company’s products have received MDA approval: (i) for the WatchPAT200 product, MDA approval since March 24, 2009; (ii) for the EndoPAT2000 product, MDA approval since February 17, 2004; and (iii) for ancillary Company’s products, MDA approval since September 12, 2013. In addition, in December 2014, the Company received MDA approval for the upgraded version of the sensor for the measuring of the PAT signals and for measuring blood oxygen saturation using a unified probe 27.6.3 Public Health Regulations (Medical Trials in Human Subjects), 1980 In Israel, a pre-condition for conducting clinical trials in human subjects is obtaining a permit in conformity with the research program (protocol) from a committee (known as the Helsinki Committee), which operates pursuant to the Public Health Regulations (Medical trials in humans), 1980. The Company’s 85   production and R&D operations are subject to provisions specified by the Ministry of Health, including: Public Health Regulations and the Helsinki Committee. 27.7 Business License The Company holds a business license in conformity with provisions of the Business Licensing Law, 1968 as from January 28, 2007, received from the Ministry of Interior, Haifa District. The business license is valid through December 31, 2015. 27.8 Export License The Company has an export license as from February 6, 2007, allowing it to export its products from Israel. 27.9 Standards The Company is committed to comply with the quality standards promulgated by certain institutions/ countries in which its products are sold: (a) the Israeli Standards Institute (including ISO standards); (b) Canadian Regulation (including SOR standards); (c) Japanese quality management standard for the medical industry: (d) U.S. regulation (including cGMP standards); (e) European Community standards and directives (including EEC, RoHSII24 and REACH25 standards); and (F) MDA approval in Israel. 27.10 Quality Control The Company’s products are produced based on engineering documentation, and their quality is tested by employees who are professionally trained and certified for doing so. Company sub- contractors provide complete products and/or assemblies / components thereof to the Company, in compliance with the required quality standards. All complete products, assemblies and components received by the Company are subject to a receiving control process for the purpose of quality testing. 24 RoHS II (Restriction of Hazardous Substances Directive 2011/65/EU) - a directive for restriction of hazardous materials, adopted by the EU and required by Notified Bodies for grant of CE mark. The directive restricts use of six hazardous substances used in manufacturing electric and electronic equipment.  25 REACH (Registration, Evaluation, Authorization and Restriction of Chemicals) - a European standards concerning chemicals and safe use thereof (EC 1907/2006). The standard is designed to improve protection of human health and the environment through better identification of major features of chemicals.  86                                                                  Quality testing is performed in conformity with cGMP regulation 21 CFR part 820 QSR, ISO9001:2008 standard, ISO 13485:2012 EN standard, CAN/CSA-ISO 13485:2003 standard and Japanese MHLW Ministerial Ordinance No. 169, 2004. 28. Material agreements (not in the ordinary course of business) 28.1 Product liability insurance The Company is insured by an insurance policy with respect to monetary claims for bodily or property damage by a third party, arising from clinical trials or from faulty products (where the product fault originated from the manufacturing process until leaving the Company). The insurance policy provides coverage of up to $7 million per single case and in total. The insurance policy does not cover, amongst others, expenses incurred due to bodily or property damage for which the Company is liable by contract (unless the Company would have been liable for it in absence of the contract as well) as well as punitive fines and interest, warranty not approved by the Company, certain cases of re-packaging of products, demonstration, installation or replacement procedures (unless conducted on Company premises), products sold and then re-classified or used as part of a different product by or on behalf of the seller, products purchased from another supplier as ancillary to the Company’s products etc. 28.2 Other insurance policies The Company is insured by other insurance policies, including business insurance, employer and third party liability insurance and healthcare insurance for Israeli citizen’s travel overseas for short stays. 29. Collaboration agreements The Company is a party to several strategic collaboration agreements which contribute to the Company from the technology development or marketing aspects, as the case may be. Below is a list of the Company’s strategic collaboration agreements: 29.1 Research collaboration between the Company and Mayo Clinic on various research and development issues: 29.2 Collaboration with the endothelial function assessment clinic in the Levayev Heart Center at Sheba Tel Hashomer Medical Center (the “clinic”) 87   In October 2013, the Company and the clinic reached agreement whereunder the clinic would make clinical use of the EndoPAT2000 device so as to allow clinic patients to be tested using the device. 29.3 Evaluation agreement with North Shore - Long Island Jewish Health System, Inc. - a U.S. network of medical centers (“North Shore-LIJ”) In October 2013, the Company signed an evaluation agreement for testing using the EndoPAT2000 device with North Shore-LIJ, one of the largest providers of healthcare services in the U.S. and the largest healthcare service provider in the state of New York. According to the agreement, the Company would provide to North Short-LIJ its EndoPAT2000 devices for six months (the “testing evaluation period”) for no consideration for the devices (the Company would receive non-material providing consideration for consumables). According to the agreement, in the first stage, the EndoPAT2000 device would be used at 11 North Shore-LIJ medical centers in New York City, which would offer their patients the use of the device during the evaluation period. The collaboration agreement was signed in order to promote the Company’s marketing strategy and clinical use of the EndoPAT2000 device in the U.S. In April 2014, the parties reached an agreement for the extension of the testing evaluation period for another six months. The number of the EndoPAT devices used for such evaluation during the extension period was to be doubled. 29.4 Collaboration agreement with the Souraski Tel Aviv Medical Center (the “medical center”) In April 2014, the Company reported that the medical center commenced clinical use of the EndoPAT device for treatment of post-catheterization patients and patients of the cardiologic system. 29.5 Collaboration agreement with the Shaare Zedek Medical Center in Jerusalem In June 2014, the Company reported that, as part of its drive for the adoption of new technologies, the Shaare Zedek Medical Center commenced clinical use of the EndoPAT device for the rehabilitation of cardiac patients and treatment of cardiology patients. 29.6 Collaboration with the Israeli company Galmed Research and Development Ltd. (“ Galmed”) In September 2014, the Company entered into a collaboration agreement with Galmed, whereunder the latter purchased 60 EndoPAT2000 systems with ancillary accessories, in order to integrate arterial function tests 88   performed by that device into its wide-scope clinical trial on about 240 NASH (non-alcoholic steatohepatitis – a fatty liver disease not resulting from the abuse of alcohol) suffering from overweight and insulin resistance. The use of EndoPAT2000 is designated as testing the effect of the medicine on the endothelial function (arterial function), a significant indicator of cardiovascular events. The importance of this agreement is the wide-scope integration of the Company’s EndoPAT2000 systems in the development of a medicine with large market potential. Galmed is engaged in the manufacture of an oral medicine for the treatment of liver diseases and cholesterol gallbladder stones, taken once a day. The medicine developed by Galmed, “Aramchol,” will initially be used for NASH patients suffering also from overweight and insulin resistance. Such patients are exposed to the two gravest complications of the disease: cardiac problems and severe liver diseases, first – cirrhosis of the liver and then liver cancer, which might necessitate liver transplant. To the best of the Company’s knowledge, the goal of the experiment is to prove that Aramchol can successfully reduce liver fat, and thus reduce or completely suppress the process that leads to clinical liver complications. The trial is scheduled to be carried out in 60 medical centers in 15 countries – in Europe, Israel and Latin America. 29.7 Collaboration with the women’s heart clinic at the Rabin Medical Center – Beilinson and Hasharon Hospitals In November 2014, the Company reported that the Cardiology Department of the Rabin Medical Center commenced using the EndoPAT device for treatment of women at its Women’s Heart Clinic. Studies have shown that the EndoPAT tests can indicate risks or defective function of small blood vessels, a disorder common mainly in women which cannot be checked by regular catheterization. These collaboration agreements are additional steps in the implementation of the Company’s new strategic plan to promote the clinical use of the Company’s products in additional markets, as described in Section 31 below. 30. Legal Proceedings The Company is not a party to any significant legal proceedings. 31. Business objectives and strategy 31.1 Major objectives and strategy During 2014, following changes in senior management, the Company changed its strategic plan. The Company’s objective in the coming few years is to focus on marketing of its cardiology products (EndoPAT and 89   WatchPAT), while continuing its activities in the sleep market using its WatchPAT device, to further commercialize its two products, the EndoPAT and the WatchPAT, as well as further development (including additional applications) of these products. The Company also intends to continue investing resources in developing further products and further medical applications in these areas of medical diagnosis. This strategy is further encouraged by the new trends in the health field. One of those trends is reducing health expenditure by primary prevention of diseases, before they develop, and another one is reducing health costs by secondary prevention after the treatment strategy has been established, so as to prevent repeated hospitalization. As mentioned elsewhere in this report, there is mounting evidence that sleep disorders are a significant factor in development of cardiovascular diseases. The Company’s vision is turning the PAT technology into the leading standard in diagnosing and treatment of the major cardiovascular diseases. In order to realize these objectives, the Company has decided to update its strategic plan for the coming years based on: 31.1.1 Primary focus on the U.S., Japanese and Chinese markets, which the Company regards as the major markets for its products, while continuing its activities in Europe. 31.1.2 Establishing significant marketing and distribution channels, including through contracting co-operation agreements and strategic marketing and distribution agreements with third parties. further details of agreements with distributors and For collaboration agreements – see Section 8.4 above. 31.1.3 Expanding the use and sales of its WatchPAT device to the cardiology market, in addition to sales to the traditional sleep market; another objective is the expansion of extensive clinical- therapeutic use of its EndoPAT device among cardiologists, hospitals and catheterization clinics across for symptomatic or diagnosed patients, for monitoring and customizing their treatment in order to improve the treatment outcome. the U.S. 31.1.4 Expansion of sources of financing at the Company’s disposal for the implementation of its strategy as delineated above. In addition, as part of its new strategic plan for 2014, the Company has expanded its sales workforce, while the workforce in other fields has decreased. The Company reexamines its manpower needs from time to time in order to adjust its staff to its business position and the situation on the world market, in particular in the areas of marketing, sales and 90   technical support in Israel and in the US. Such adjustment is a function of the expansion of the Company’s marketing activities. The Company also intends to increase the number of the production workers in its employ, due to the growth in output and the proportion of own manufacture and manufacture by subcontractors. For more information about the Company’s strategic plan, see the immediate reports dated October 3, 2013 (reference: 2013-01-157473) and January 29, 2014 (reference: 2014-01-026425). In order to achieve its objectives, the Company intends to continue marketing unique products and applications, having clinical and other advantages in comparison to competing products, as well as to extend the scope of current protection of its intellectual property by applying for patents and registered trademarks. 31.2 Company objectives for each of its major medical products for 2014 and 2015: Medical product Current status 2014 and 2015 WatchPAT EndoPAT Product development and trials have been completed and it is being sold in several countries, including the U.S., Japan and European countries. Currently, the Company is focused on: (a) development of additional indications and improvements for the device, as listed in Section 8.5.2 above; and (b) increase revenues from product sales by penetrating new segments and taking various initiatives to increase sales in the Company’s major markets today - U.S. and Japan - through Company sales staff and various marketers, as well as by taking action to ensure the highest possible reimbursement for use of the Company’s products. Product development and trials have been completed and it is being sold in several countries, including the U.S., Japan and European countries. Currently, the Company is focused on: (i) penetration of markets which are not sensitive to insurance reimbursement, such as the wellness market; (ii) intensify penetration of the Japanese market; (iii) further action in order to secure insurance reimbursement in the U.S.; (iv) joining forces with distributors; and (v) penetration 91   Medical product Current status 2014 and 2015 of the Chinese market. With regard to penetrating new markets, the Company continues to focus its efforts on penetrating the market in Japan, primarily due to its importance for the EndoPAT product, which in 2012 received approval for insurance reimbursement in Japan, and due to the extensive interest in this device in Japan. 31.3 Company’s objectives for the coming years The major components of the Company’s business strategy for the next few years, for the purpose of achieving its objectives are as follows: 31.3.1 Development and expansion of the marketing and distribution channels, with a focus on U.S., Japan and China - diverting additional resources (including financial, managerial and human resources) to establishing significant marketing and distribution channels in Japan and the U.S., including through contracting collaboration agreements and strategic marketing and distribution agreements with third parties and establishing operations in Japan. This is done concurrently with continued service provision to existing Company customers and distributors in other markets - Europe, Asia-Pacific and South America. The Company would continue to operate in the Israeli market, despite its smaller size, since it allows the Company more rapid response and development times. As regards marketing agreements reached in 2014 with significant Japanese and U.S. distributors, see Section 12.3 above. 31.3.2 Expanding implementation of sales model to commercial - clinical customers in the U.S. – the Company intends to expand the implementation of the sales model to commercial - clinical customers in the U.S. to a leasing model (the “leasing model”) whereby the customer/physician would not be required to invest in purchase of fixed equipment (the Company’s WatchPAT or EndoPAT products) but would rather lease this equipment from the Company and would commit to purchase the consumables provided by the Company (single-use probes). In practice, the progress achieved with the EndoPAT leasing model in the United 92   States in 2014 was slower than envisaged, as a result of the slow approval of insurance reimbursement under health insurance policies. The Company continues cooperation with its principal customers and with external agencies in order to promote the inclusion of insurance policies. The Company believes that the leasing model may result in an increase in number of systems installed at hospitals and private clinics, as well as a more moderate sales growth rate over the short term. In the long term, the Company believes, the leasing model may result in significant sales growth. insurance reimbursement in health 31.3.3 Expanding the use of the WatchPAT product to other market segments – the Company is striving to expand the use of WatchPAT to other market segments, given recently-published scientific research which proves the connection between Sleep Apnea and severe medical conditions such as: hypertension, diabetes, arrhythmia, heart disease, neurological conditions and even complications following surgery under full anesthesia. The Company intends to join forces with distributors specialized in these market segments. 31.3.4 Expanding the use of EndoPAT product to other market segments – The Company will continue to support its current operations in primary prevention of heart attacks as a medium to long-term objective, but will focus its activities on secondary prevention - monitoring of symptomatic patients or following a cardiac event. 31.3.5 Expanding penetration of the wellness market – the wellness market and integrative medicine (combining conventional and alternative medicine) form a growing market in the U.S. In this regard, the Company has recently announced its collaboration with a leading U.S. manufacturer of nutritional additives - Thorne Research. This market involves both primary prevention and early diagnosis, as well as secondary prevention. 31.3.6 Obtaining approval for extensive insurance coverage for use of the Company’s products and adoption thereof by insurers – The Company intends to obtain extensive insurance coverage for use of its products. For more information, see Section 6.2 above. 31.3.7 Obtaining the support of professional associations for the Company’s products – the Company intends to continue approaching professional associations to seek their support for 93   reimbursement codes the Company’s products and submitted/to be submitted to the AMA panel and included in medical guides/protocols. for 31.3.8 Expanding the use of PAT signal and PAT technology in studies and clinical trials - current and future, multi-patient, in various medical areas, which involve multi-year monitoring. 31.3.9 Continuation of publishing clinical trials supporting the efficiency of the Company’s products – the Company intends to continue investing resources in order to increase the scope of information published with regard to its products, including publication of research results related to its products and publication of positive results generated by use of its products. 31.3.10 Increasing awareness of availability of PAT signal and PAT technology as a platform for early diagnosis and monitoring in various medical fields – the Company intends to invest resources to increase awareness among the medical community of the importance of the PAT signal and PAT technology and their clinical efficiency in diagnosis of a wide range of illnesses. 31.3.11 Developing and marketing additional applications of the PAT signal and PAT technology – the Company intends to invest resources in order to identify additional applications of the PAT signal and PAT technology by adding features to existing products, development of new applications for existing products and entrance into additional medical fields. The information in Section 31 with regard to Company objectives, sales potential for its products in the U.S., change in expense structure, intent to contract marketing and distribution agreements with third parties and its business strategy and its financial implications, constitutes forward-looking information, as defined in the Securities Act. Forward-looking statements are uncertain, future-oriented information based on information available to the Company as of the report date, which includes company expectations or intentions as of the report date. Difficulties in development of PAT technology and/or failure of negotiations with potential distributors and/or customers and/or strategic customers and/or delays in clinical trials and/or changes to market structure or the competition may alter the objectives and strategy listed above. 31.4 Anticipated development over the next year In 2015, the Company will start to implement its revised strategy, highlighted in Section 31.3 above. The Company will focus on 94   implementing the marketing and distribution agreements it has signed, in order to maximize sales. It will also take steps for reaching new agreements with distributors and hospitals. 32. Information regarding extraordinary changes in corporate business For information about events subsequent to December 31, 2014, see Note 28 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 33. Financial information regarding geographical areas For financial information regarding geographical areas where the Company has activities, see Note 5 to the Company’s consolidated financial statements as of December 31, 2014, enclosed as Part C of this Annual Report. 34. Discussion of risk factors 34.1 Recognition of The Company’s products and their acceptance by the international medical community The Company’s success depends on recognition by the medical community of technology developed by the Company. Recognition by the medical community of products incorporating methods for use of PAT technology for diagnosis of medical conditions as a global standard depends on the Company’s ability to provide evidence that its products are efficient, cost effective and they provide significant improvement in performance and data compared to other diagnostic tools available in the market. Even should the Company succeed in proving the advantages of its products in cost and medical performance, there is a risk that healthcare service providers, having invested significantly in other devices, will therefore avoid purchasing the Company’s products. There is no certainty that the Company would be successful in generating recognition for its products in the market and within the medical community. that 34.2 Reimbursement policies of healthcare insurers As of the report date, most medical insurers cover or only allow partial reimbursement of expenses associated with tests using the Company’s products. Failure of the Company to have all medical insurers allow full reimbursement for expenses associated with using the Company’s products may adversely impact acceptance of the products by the medical community. Even with reimbursement provided for the Company’s products - there is no certainty as to the reimbursement amount. A low reimbursement amount may impact use of the Company’s products as well as Company revenues. 95   Furthermore, the Company sells its products primarily in the U.S. Patients in the U.S. do not typically use medical services which are not paid for by a third party, such as insurers or government healthcare organizations. Therefore the Company’s success in the U.S. sales relies on the agreement of such third parties to pay for tests and medical services based on the Company’s products. There is a CMS initiative in the U.S., at the nation-wide level, to reduce some payments with respect to home sleep testing. 34.3 Demand for the Company’s products There is no certainty about the level of demand for the Company’s products, which depends on acceptance of the Company’s products and of its exclusive technology (the PAT technology) on which they are based as products having added value compared to current methodologies existing in the market. 34.4 Failure or delay in obtaining approvals, permits and licenses required for marketing the Company’s products Marketing of the Company’s products around the world is subject to regulatory permits and approvals from various entities, such as the FDA in the U.S., Shonin in Japan etc. The process for obtaining such permits and approvals is costly and intensive, with typical duration of 3-24 months. Changes to legislation and/or policy of regulatory bodies or new legislation may delay the process of obtaining required permits, a delay which may cause the Company additional expenditures. In addition, there is no certainty that the Company shall obtain the required approvals for marketing its products. Should the Company fail to obtain the approvals and licenses as mentioned, this may adversely impact results of its operations. 34.5 Competition technologies and medical devices competing with The field in which the Company operates is characterized by significant research effort and many technological developments. Development of the medical Company’s products may impact demand for its products, and there is no certainty that the company will successfully and efficiently compete with its competitors. In addition, there are other technologies in the areas of cardiology and of diagnosing sleep breathing disorders, some of which are owned by companies far larger and powerful than the Company, from both operational-commercial and financial aspects, which are better known by the healthcare system and by various healthcare service providers. It is uncertain whether the Company will be successful in 96   efficiently facing its competitors in the market. Furthermore, since the Company operates in markets where significant other players operate (with significant market share and financial strength), there may be products and/or competitors on the market which would implement drastic price reduction policies (dumping) and/or who would promote marketing of products which do not involve consumable components (requiring single-use for each testing) - which would be a challenge for the Company in proving the economic benefit of its products. 34.6 Financing and investment sources As of the report date, the Company has a shareholder equity shortfall. The Company also has a negative operating cash flow. The Company does not anticipate needing additional financing sources, beyond those available to the Company within the next 12 months. However, the Company’s success depends on its ability to become profitable and to generate a positive cash flow in future or, alternatively, its capacity to raise additional capital or debt in future for its operations - primarily support for a marketing and sales organization of the size required to generate significant revenues. 34.7 Operational and commercial growth The Company intends to expand the volume of its commercial and business operations. Such growth requires proper and efficient management and resource in Company management, investment professional staff, operations etc. The Company is not very experienced in this field, so there is no certainty as to whether the Company would successfully and efficiently handle the expansion of its business and the associated requirements, including meeting demand for its products. 34.8 Results of clinical trials The results of clinical trials, whether by the Company or by third parties, may present a negative outcome with regard to use of the Company’s products, so as to negatively influence the willingness of the medical community and/or end customers to purchase the Company’s products. 34.9 Regulatory developments, international standards and permits Marketing of the Company’s products around the world is subject to legislation and standards in the U.S., Europe, Israel and elsewhere. The Company is impacted by regulatory changes occurring from time to time with relation to health in general and to the Company’s products in particular. New discoveries in medicine and changes to standards and regulation may impose different restrictions on Company operations, 97   including future approval of its products or revoking of current licenses and permits. For details see Section 27 above. 34.10 Development of additional applications The Company wishes to develop in future, additional applications based on the PAT technology in order to extend its product line. There is no certainty that the Company will meet the technological, clinical and regulatory requirements or any other requirements which may apply to the Company in the development process of new products. There is also no certainty that the Company will have the financial means to allow such development. The Company believes that the ability to develop new applications is essential for preserving and/expanding its market share in competitive environment. 34.11 Reliance on proprietary technology All the Company’s products, whether on the market or being developed, rely on PAT technology. These products all focus on monitoring and analysis of the PAT signal. Should this technology be rejected by the market and the medical community, the Company may face difficulties in marketing its products. The same goes for market, scientific and medical developments which may not recognize this technology and may have material negative impact on the Company’s operating results. 34.12 Product liability The Company’s products have applications in the areas of diagnosis and analysis of information regarding the patient’s clinical and health situation. The Company’s products are complex, sophisticated products which may harbor defects and faults - some of which may not have been discovered yet. As a result, the Company may be sued for defects in the product and for product liability in both the trial phase and the marketing phase. 34.13 Uncertainty regarding protection of intellectual property The Company relies on its ability to register its patent rights for its various developments and on its ability to protect its trade secrets and trademarks. There is no certainty that the Company will succeed in recording additional patents or any patent for any of its various developments, nor shall that patents granted to the Company shall not be claimed by third parties. In addition, in some countries the Company enjoys no legal protection of its intellectual property. For information about the Company’s intellectual property, see Section 19 above. 98   34.14 Failure to meet production demand The Company’s inability to meet demand for its products, in terms of production volume, may impact its sales. In addition, defects in the manufacturing process for the Company’s products may lead to products being returned to the Company, which may negatively impact the Company’s financial results as well as customer decisions regarding future use of the Company’s products. 34.15 Intellectual property rights of third parties The Company’s success depends, among others, on its ability to protect its intellectual property without infringing on any intellectual property rights of any third party. There is no certainty that any patent or other intellectual property owned by any third party may not require the Company to modify its products or the underlying technology for the Company’s products, or pay royalties for licenses or discontinue the development of certain products, now or in the future. Although intellectual property conflicts are typically resolved by means of licensing and similar arrangements, such arrangements entail significant expenses, which may be material for the Company. In addition, there is no certainty that the Company will be successful in obtaining the licenses it requires. The Company is liable for law suits regarding infringement of intellectual property rights by third parties, which may cause the Company further expenses and resource investment. Potential outcomes of such legal proceedings may lead to interdiction and material restriction of Company activity, whether in development, production or marketing of its products. 34.16 Reliance on suppliers and manufacturers Some material components in some of the Company’s products are supplied by a small number of suppliers, or are manufactured by a single or a few manufacturers. This reliance of the Company on suppliers and manufacturers acting as sub-contractors of the Company exposes the Company to potential situations where the supplier or manufacturer is no longer able to deliver or produce the said component at all or within the schedule required for development of the Company’s products. The Company is also exposed to a situation where its contract with any supplier or manufacturer shall expire, which would cause delays and extra expenses associated with completing development and manufacturing of the product. 99   34.17 Medical protocols Professional associations publish from time to time practice guidelines, suggesting processes and procedures intended for various medical conditions. There is no certainty that such guidelines will include and/or prefer the Company’s products. Such guidelines have significant importance and influence on decisions by various health plans on including the Company’s products in the range of covered tests and procedures offered to their customers. In addition, many physicians are acting in conformity with recommendations made in these guidelines. 34.18 Mass production and marketing of the Company’s products The Company has not yet gathered much experience in mass marketing of its products, and its success in doing so depends on many different factors, including the Company’s ability to contract with component manufacturers. The Company has no certainty about the challenges it may face in moving to mass production and marketing. 34.19 Carryforward loss Through the report date, the Company has accumulated carryforward loss as described in Note 11e to the Company’s consolidated financial statements, enclosed as Part C of this Annual Report. It is uncertain whether the Company would be able to utilize all of its carry-forward loss for tax purposes in the foreseeable future. 34.20 Trade secrets The Company relies to a large extent on its trade secrets and proprietary knowledge in developing its products and their underlying technology. The company’s failure to keep and protect its trade secrets may allow a third party to discover its trade secrets and make use of such information to compete with the Company. There is also no certainty that any third party may not succeed in developing identical or similar technology on its own, thereby impacting the competitive advantage of the Company’s products. 34.21 Exchange rate fluctuations All Company sales are made in dollars, while some of its expenses, particularly payroll and human resource expenses, are in NIS. Exchange rate fluctuations may cause higher expenses for the Company. 100   Following are Company estimates of the impact of risk factors on the Company: Degree of impact of risk factor on the Company Major impact Medium impact Minor impact Macro-economic risk factors 1. Exchange rate fluctuations Sector-specific risk factors    2. Competition 3. Regulatory developments, international standards and permits 4. Medical protocols 5. Development of additional applications 6. Reliance on proprietary technology 7. Reimbursement policies of healthcare insurers 8. Intellectual property rights of third parties 9. Reliance on suppliers and manufacturers 10. Product liability 11. Financing and investment sources Company-specific risk factors 12. Failure or delay in obtaining approvals, permits and licenses required for marketing the Company’s products 101            Degree of impact of risk factor on the Company Major impact Medium impact Minor impact    13. Recognition of the Company’s products and their acceptance by the international medical community 14. Results of clinical trials 15. Demand for the Company’s products 16. Mass production and marketing of the Company’s products 17. Meeting production demand 18. Carry-forward loss 19. Uncertainty regarding protection of intellectual property 20. Trade secrets 21. Operational and commercial growth       *** 102     ITAMAR MEDICAL LTD. PART B REPORT OF THE BOARD OF DIRECTORS ON THE STATE OF COMPANY’S AFFAIRS AS OF DECEMBER 31, 2014 1 Board of Directors’ Report for the Year Ended December 31, 2014 We hereby present the Board of Directors’ Report of Itamar Medical Ltd. (“Itamar Medical” or the “Company”) and its subsidiaries (the “Group”) as of December 31, 2014 (the “report date”), and the Company’s consolidated financial results for the year ended December 31, 2014 (the “reporting period”), in conformity with the Israeli Securities Regulations (Periodic and Immediate Reports), 1970 (the “Regulations”). The Board of Directors’ Report includes, among others, a description of the state of corporate affairs, operating results, shareholders’ equity and cash flows, as well as the impact of events in the reported period on data included in the Company’s consolidated financial statements as of December 31, 2014 (the “financial statements”). Data included in this report, which are stated as of the issuance date are true as of March 23, 2015. Preparation of the financial statements The financial statements enclosed in Part C of this report are prepared in conformity with the Israeli Securities Regulations (Preparation of Annual Financial Statements), 2010. The functional currency and the reporting currency of the financial statements is the U.S. dollar (“dollar” or “$”). For more information, see Note 2b to the Company’s consolidated financial statements. Chapter A – Board of Directors’ Explanations of the State of Corporate Affairs 1. Summary description of the Company The Company is engaged in research and development, marketing, selling and leasing of non- invasive medical devices and associated support services for the diagnosis and assessment of various medical conditions, including cardiology disease and sleep breathing disorders. The unique proprietary technology developed by the Company is capable of non-invasively recording, measuring and analyzing the Peripheral Arterial Tonometry; PATTM (“PAT”) signal. two products: WatchPATTM (“WatchPAT”) and The Company develops and markets EndoPATTM (“EndoPAT”). For more information about the Company’s products, see Section 2 of Part A of this report. Towards the end of 2013, following changes in the Company’s senior management, which occurred at the end of 2013 and during 2014, the Company changed its strategic plan in order to focus on marketing its products (EndoPAT and WatchPAT) in the Cardiology field (in parallel with the continuing its operation in the sleep breathing disorder field using its WatchPAT device), as well as to focus in the U.S. and Japanese markets and lately in the Chinese market, which the Company identified to be the main markets to its products, with a potential to increase its revenues. As a result, the Company changed the format of its financial statements (starting with the financial statements for the year ended December 31, 2014) and reports one operating segments, the Cardiology Segment. For more details about the Company’s strategy, see Section 31 of Part A of this report. 2. Major events during and after the reported period The Company’s revenues increased by approximately 23% in 2014, over the corresponding period last year, together with improvement of the gross margin rate. 2 During 2014 and from January 1, 2015 through the issuance date of the report, the Company focused on several significant areas, as described below, in order to further support growth in this year: a. Activities focused in line with the new strategy, reflected by signing and execution of significant distribution agreements: (i) an exclusive distribution agreement with Philips Respironics GK, the local Philips representative in Japan to distribute the WatchPAT device and accessories, including insurance reimbursement approved by the qualified agency of the Japanese Ministry of Health in January 2014; (ii) a marketing agreement with Medtronic, Inc. (which is the parent company of Medtronic International Technology, Inc., which is considered to be a controlling shareholder of the Company), whereby Medtronic, Inc. will market together with the Company the WatchPAT device to doctors in the U.S. who specialize in Arrhythmia (electrophysiology); and (iii) an exclusive distribution agreement in Japan with Nihon Kohden Corporation (“Nihon Kohden“), whereby Nihon Kohden will distribute the EndoPAT2000 system and accessories to customers in Japan, including general practitioners and hospitals; (iv) an exclusive distribution agreement in China with Beijing Viable Medical Investment Co. Ltd. (“BVMI”), whereby, starting January 1, 2015, BVMI will distribute the EndoPAT system in China; and (v) representation and distribution agreements with Arterial Health International LLC (“AHI”). Under the representation agreement, AHI is to be the sole service provider in ten states in various parts of the U.S. for cardiovascular examinations performed using the EndoPAT2000 device on customers under the cardiovascular examination package provided by AHI. The Company also entered into a cooperative distribution agreement with AHI for WatchPAT (the new version with the special sensor, the unified probe) and EndoPAT for Primary Care Physicians. For more information, see Section12.3 of Part A of this Annual Report. b. In January 2015, the U.S. subsidiary launched the Total Sleep Solution (TSS), a family of products and services in the U.S., which is intended to provide a complete Sleep Apnea management solution in hospital-based environments. The TSS shifts Itamar from a manufacturer and seller of medical devices to a complete service pathway provider, including products, education and services throughout the patient care pathway. For more information, see Section 8.4 of Part A of this Annual Report. to Cardiology practices and departments c. Reinforcing of the Company’s financial position with: (i) private placements, in January and May 2014, of equity to three institutional investors: HaPhoenix Investments and Finance Ltd. and with HaPhoenix Insurance Company Ltd. (Elementary Nostro) (“HaPhoenix”), Yelin Lapidot Investment House Ltd. (“Yelin Lapidot”) and Migdal Insurance Company Ltd. (“Migdal”). Following this private placement, Yelin Lapidot became an interested party in the Company, and Migdal, which had been an interested party prior to this private placement, increased its holding stake in the Company. Thus, the Company completed raising a total of NIS 57.1 million, gross (approximately $16.4 million) from institutional investors since December 2013; and (ii) third and final withdrawal on account of a credit facility provided to the Company by four of its shareholders, by way of offset against principal repayment on notes (Series A). In addition, In January 2015, subsequent to the report date, Medtronic International Technology, Inc., Itamar Technologies and Investments (1994) Ltd. (a company controlled By Dr. Giora Yaron, which is an interested party) and Mr. Martin Gerstel, which is an interested party (together the “Three Shareholders”) granted the Company an irrecoverable commitment to grant the Company a line of credit in the total amount of up to NIS 9,058,131 (approximately $2.3 million). For more information, see Sections 3 and 24.5 of Part A of this Annual Report. 3 d. Further promote and support for clinical research, as reflected by a significant research publication in 2014 of ACC (American College of Cardiology), which showed that EndoPAT testing of patients who have undergone angiography provided a non-invasive indication of the need for repeat angiography. Such research reinforces the scientific proof of the clinical need for the Company’s products. The Company has reported that its EndoPAT device has been put to clinical use at the Tel Aviv Sourasky Medical Center in April 2014, at the Shaare Zedek Medical Center in Jerusalem in June 2014, and at the Rabin Medical Center (Beilinson-Hasharon) in November 2014. The Company has also reported the continuation of the evaluation of its EndoPAT2000 device with the healthcare chain, North Shore – Long Island Jewish Health System, Inc. in the United States. e. In addition, in September 2014, The Company also entered into a cooperation agreement with an Israeli company, Galmed Research and Development Ltd. (“Galmed”). As part of this agreement, testing of Endothelial function by the Company’s EndoPAT2000 product, will be included as part of a large-scale clinical trial conducted with NASH (Nonalcoholic Steatohepatitis) patients who suffer from obesity and insulin resistance. For more information, see Section 29 of Part A of this Annual Report. f. As for support for its future product line, the Company has received Federal Drug and Food administration (“FDA”) approval in the U.S. for a new, improved version of its WatchPAT Unified Probe, a product which incorporates an oximetry sensor within the probe sensor, thereby simplifying the test process and further increasing its efficacy. g. The Company has launched further development designed to adapt its WatchPAT device for diagnosis in children and infants. Such development includes a smaller device and a new probe adapted for younger patients, software and algorithm development as well as other accessories. Since currently, children and infants undergo sleep breathing disorder diagnosis at hospital labs, this development would potentially allow for in-home diagnosis of children and infants as well. h. The leasing model for the EndoPAT device in the United States is making slower than expected progress, due to delay in approval of insurance reimbursement by healthcare insurers. The Company continues to work with its major customers and with external agencies in order to have the appropriate insurance coverage included on healthcare insurance. Information provided above with regard to continued growth of the Company, constitutes forward-looking information , as this term is defined in the Israeli Securities Law. Forward-looking information is uncertain information with regard to the future, based on information or estimates currently available to the Company, including intents of or assessments by the Company as of the publication date of this report, or which is not entirely dependent on the Company. These assumptions depend on external and macro- economic factors over which the Company has no influence or limited influence. This information, in whole or in part, may not materialize or may materialize differently due, inter alia, to delay in negotiations with distributors and/or delay in research and development and/or change in market structure and requirements or market competition and/or financing difficulties which could impact the development of Company business. 4 3. The Group’s Financial position (Development of Items in the Statement of Financial Position) In this report, the Company’s notes (Series A), convertible into the Company’s ordinary shares and listed for trading on the Tel Aviv Stock Exchange Ltd. (“TASE”) and was fully repaid in February 2014, as well as Company’s notes (Series L), listed for trading on the TASE in March 2013 and convertible into the Company’s ordinary shares. Item December 31, 2014 December 31, 2013 Dollars in thousands Change Increase (decrease) % Company explanations 18,336 18,881 (3%) Cash and cash equivalents and investments in securities Current assets 23,569 22,648 4% to final issuance During the year ended December 31, 2014, the Company concluded two rounds of capital raising by equity institutional investors, in the total amount of $11.8 million, and repaid the third installment of notes and (Series A), amounting to $5.2 million (after offset of the third to $1.9 withdrawal, amounting million from the Company’s four net major balance was used finance operating activities in the amount of $5.4 million. In addition, there was a decrease in this item as a result of the devaluation of the NIS against the the USD which decreased balance of cash, cash equivalent and short the nominated in NIS. shareholders). The investments term to of fourth The increase in current assets is primarily due to increase in trade receivables due to increased sales in the 2014 quarter (compared to the fourth quarter of 2013). In addition, there was an increase in inventories, mainly as a result of production of the new and upgraded version of the WatchPAT. On the other hand, there was a cash cash decrease and equivalents balances investments as in described above. securities and in Current 4,712 11,416 (59%) The decrease is primarily due to the 5 Item December 31, 2014 December 31, 2013 Dollars in thousands Change Increase (decrease) % Company explanations liabilities Non-current liabilities 24,623 27,011 (9%) Working capital 18,857 11,232 68% Current ratio 5.0 2.0 Capital deficiency 4,770 14,643 (67%) third and principal of notes (Series A). final repayment of The increase is due to a decrease in the warrants the fair value of embedded in notes (Series L), primarily due to a decrease of 6% in the value of Company shares as of December 31, 2014, compared to December 31, 2013 and to the decrease in the time value of the warrants. This decrease is partially offset by a loan obtained from four shareholders of the Company, as described below in section 6.4 below. The increase in the working capital and in the current ratio is primarily due to $11.8 million in capital raised and to a $1.9 million loan received from four shareholders of the Company, as described below in section 6.4 below as well as the third and final principal repayment of principal of notes (Series A). The decrease in capital deficiency is due to capital raised by equity issuance to institutional investors, partially offset by the loss recorded in the first nine months of 2014 (for more information see operating results analysis of operating results in Section 4 below). 4. The Group’s operating results (development in statements of operations items) The Company’s results of operations, net of expenses not involving cash flows, as presented under summary of Non-IFRS financial data, also indicate an improving trend (improvement in gross profit, decrease in operating loss and consequently, a decrease in the loss for the reported periods). 6 Below is a summary of operating results (dollars in thousands): Summary of operating results as presented in the financial statements: Year Ended December 31, Quarter Ended December 31, 2014 2013 2014 2013 16,387 4,798 11,589 13,337 (4,258) 9,079 4,476 1,179 3,297 8,436 7,396 2,516 3,760 996 2,764 2,234 2,017 1,893 496 438 4,745 (3,609) (468) (2,817) 4,997 (5,207) 829 (5,235) 1,206 (921) (135) (553) 2,351 (2,259) 158 (1,427) 3,743 (3,350) (991) (4,768) 458 (7,756) (1,679) (6,037) (3,151) (12,963) (2,600) (8,296) (124) (3,257) 44 (12,919) 93 (2,507) 79 (8,217) Revenues Cost of revenues Gross profit Selling and marketing expenses Research and development expenses General and administrative expenses Operating loss Financial income Financial expenses Gain (loss) from financial derivatives Financial income (expenses), net Loss before taxes on income Income tax credit (expense) Loss for the period 7 Revenues Cost of revenues Gross profit Selling and marketing expenses Research and development expenses General and administrative expenses Operating loss Financial income Financial expenses Loss on financial derivatives Financial expenses, net Loss before taxes on income Income tax credit (expense) Adjusted loss for the period* Adjustments to loss for the period: Loss for the period – Non-IFRS Adjustments: Depreciation and amortization Change in provision for doubtful and bad debt Expenses due to share-based payment Settlement agreement with former distributor Revaluation of embedded options Adjusted loss for the period* Year Ended December 31, Quarter Ended December 31, 2014 2013 2014 2013 16,387 4,622 11,765 13,337 4,101 9,236 4,476 1,134 3,342 8,018 7,373 2,387 3,760 989 2,771 2,172 1,827 1,862 443 457 3,684 (1,764) (468) (2,817) 3,686 (3,685) 829 (5,235) 960 (448) (135) (553) 1,185 (1,043) 158 (1,427) (114) (228) (87) (9) (3,399) (4,634) (775) (1,278) (5,163) (8,319) (1,223) (2,321) (124) 44 93 79 (5,287) (8,275) (1,130) (2,242) (3,275) (12,919) (2,507) (8,217) 324 400 46 117 78 36 1,475 143 359 - (3,857) (2,012) 682 3,122 4,664 - 904 1,377 76 155 123 682 4,759 5,975 (5,287) (8,275) (1,130) (2,242) 8 * ** Non-IFRS adjusted loss, which eliminates non-cash components, or non- recurring components. Adjusted information, not in conformity with IFRS rules, which eliminates non-cash components. Non-IFRS measures should be considered in addition to, and not as a substitute for, the results presented in accordance with IFRS. The Company presents such non-IFRS measures because management believes that such non-IFRS information is useful because it can enhance the understanding of its ongoing economic performance and therefore uses internally this non-IFRS information to evaluate and manage its operations. The Company has chosen to provide this information to investors to enable them to perform comparison of operating results in a manner similar to how the Company analyzes its operating results. Analysis of statement of operations data in the year ended December 31, 2014 Item For the Year Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Revenues 16,387 13,337 23% Company Explanations The increase in revenues, compared to the previous year is attributable to an increase of 27% in revenues from the sale of the EndoPAT, an increase which is due to both an increase in sales by the subsidiary in Japan, which commenced operations in the second quarter of 2013, an increase in sales to pharmaceutical companies, and an increase in sales in China. In addition, the WatchPAT also revenues increased by 18% over the previous year. from Gross profit 11,589 9,079 28% Selling and marketing expenses 8,436 7,396 14% 9 to 68% Gross margin in 2014 was 71% of total the revenues, compared previous year. The improvement in gross margin is primarily attributable to: (i) streamlining of production processes and cost reduction; and (ii) attribution of fixed expenses to a larger production volume. in The increase, compared to the previous year, is primarily due to recruitment of sales staff in the U.S. and in Japan, which increased payroll, sales commissions and payroll-related benefits, and to an increase in expenses with respect to options granted to officers and employees. This increase was partially offset by: (i) expenses in the previous year for a one- time campaign to rise of the importance of (ii) Expenses EndoPAT testing; and Item For the Year Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Company Explanations relating reimbursement in the U.S. and Japan. achieving to insurance General and administrative expenses 4,745 4,997 (5%) Operating loss (3,609) (5,207) (31%) Financial income (468) 829 Financial expenses (2,817) (5,235) (46%) 10 a (“AMC”), The decrease, compared to the previous year, was primarily due to the following: (i) legal expenses in the previous years in respect of legal proceeding with American Cardio, LLC former distributor of the Company in the U.S., which ended up in a settlement; and (ii) expenses in the previous year relating to the settlement reached with AMC (for more information, see immediate report of the Company dated December 19, 2013, reference: This decrease was partially offset by: (i) increase in payroll expenses with respect to options granted in December 2013 and during 2014 to employees, CEO, officers and directors; and (ii) increase in the number of employees. 2013-01-102514). improvement to The in operating loss, the previous year, was compared attributable to improved gross profit, due to to improved gross margin, which was partially offset by increase in selling and marketing expenses. in revenues and also increase in income transition the from The previous year to expense in the current year was primarily due to financial expenses with respect to exchange rate differentials on NIS-denominated cash balances in 2014, due to revaluation of the dollar against the NIS (by 12%), whereas in the previous year, financial income were recorded due to devaluation of the dollar against the NIS (by 7%). The decrease, compared to the previous year, is primarily due to the effect of the change in dollar/NIS exchange rate on the liability amount of the notes (Series L). In to 2014, exchange rate differentials on the notes (Series L) amounted to $1.6 million, financial relating income Item For the Year Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Company Explanations Gain (loss) from financial derivatives 3,743 (3,350) Loss (3,275) (12,919) (75%) Adjustments to loss (2,012) 4,664 compared to financial expenses of $0.8 million in the previous year. The transition from loss from financial derivatives in the previous year to gain in the current year is due to non-cash change in the fair value of warrants embedded in the notes (Series L), issued in the first quarter of 2013. The gain in the current year is primarily due to a decrease of 6% in the share price (as of December 32, 2014, compared to December 31, 2013) and the decrease in the time value of the options as a result of passage of time, which reduced the liability relating to the embedded warrants. In the previous year In the previous year, the loss resulted from an increase of 10% in the share price. Furthermore, in the previous year, there was a gain which resulted from the change in value of the embedded warrants in notes (Series A), offset by issuance expenses attributed to warrants embedded in notes (Series L) which, according to IFRS, were directly recognized in the statement of operations, amounted to $0.5 million. The decrease in the loss in the current year is primarily attributable to improved gross margin and to transition to net financial income, which was partially offset by the increase and marketing expenses. selling in to to in adjustments The change loss, compared to the previous year, is mainly due to gain recognized in 2014 with respect revaluation of warrants embedded in the Company’s notes (Series L), compared to a loss in the previous year and costs of settlement with a former distributor in 2013. Conversely, in 2014, expenses increased due to option granted to employees, CEO, officers and directors in December 2013 and in 2014. Adjusted loss (5, 287) (8,275) (36%) The decrease in adjusted loss, compared 11 Item For the Year Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Company Explanations to the previous year, is primarily due to increase in revenues and to improved gross margin, as well as to improved net financial expenses due to revaluation of the dollar against the NIS. Analysis of statement of operations data in the quarter ended December 31, 2014 Item For the Three-Month Period Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Revenues 4,476 3,760 19% Company Explanations to year compared last the The increase, corresponding quarter is primarily due to an increase of 21% in revenues from the sale of the WatchPAT. The increase in the revenues from the sale of the WatchPAT is due, among others, to sales to Philips Japan and to increase in sales by the subsidiary in the U.S. There was also an increase of 17% in revenues from the sale of the EndoPAT, which is partially attributable to sales of $546 thousands resulting from the distribution agreement with BVMI in China and $587 thousands resulting from the distribution agreement with Nihon Kohden in Japan. Gross profit 3,297 2,764 19% Gross profit in the fourth quarter of 2014 accounted for 73% of total revenues in the period, similar the corresponding quarter last year. to Selling and marketing expenses General and administrative expenses 2,516 2,234 13% 1,206 2,351 (49%) 12 to increase, compared The the corresponding quarter last year is due to the same reasons indicated above in comparison of the years ended December 31, 2014 and 2013. to compared last year The increase, the is corresponding quarter primarily due to (i) legal expenses in the corresponding quarter last year in respect of legal proceeding with AMC; and (ii) expenses in the corresponding quarter last year relating to the settlement reached Item For the Three-Month Period Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Company Explanations with AMC. This decrease was mainly offset by (i) increase in payroll expenses due to options granted to employees, CEO, officers and directors in December 2013 and in 2014; and (ii) increase payroll expenses resulting from the increase in the number of employees. Operating loss (921) (2,259) (59%) Financial income (135) 158 Financial expenses (553) (1,427) (61%) Loss from financial derivatives (991) (4,768) (79%) 13 to last year, improvement, compared the The corresponding quarter is primarily due to decrease in general and administrative expenses, compared to the last year and corresponding quarter improved gross margin, which was partially offset by the increase in selling and marketing expenses. in respect income transition The the from corresponding quarter last year to expense in the current quarter was primarily due to expenses with to financial exchange rate differentials on NIS- denominated cash balances in the fourth quarter of 2014, due to revaluation of the dollar against the NIS (by 5%), whereas in the corresponding quarter last year, financial income were recorded due to devaluation of the dollar against the NIS (by 2%). to compared last year, the decrease, The corresponding quarter is primarily due to the effect of the change in dollar/NIS exchange rate on the liability amount of the notes (Series L). In the current quarter, financial income relating to exchange rate differentials on the notes (Series L) amounted to $0.7 million, compared to financial expenses of $0.2 million in the corresponding quarter last year. in the non-cash The decrease loss, compared to the corresponding quarter last year, is primarily due to change in the fair value of warrants embedded in the notes (Series L). The impact of revaluation of the current quarter these warrants in Item For the Three-Month Period Ended December 31, 2013 2014 Dollars in thousands Change Increase (Decrease) % Company Explanations Loss (2,507) (8,217) (69%) Adjustments to income (loss) 1,377 5,975 (77%) amounted to a loss of $0.9 million (this loss is primarily due to an increase of 12% in the share price in the fourth quarter of 2014). In the corresponding quarter last year, the loss was primarily due to change in the fair value of the warrants embedded in notes (Series L), amounting to $4.9 million (this loss is primarily due to an increase of 36% in the share price in the fourth quarter of 2013). The decrease in the loss in the current quarter is primarily attributable to: (i) increase in revenues; (ii) decrease in general and administrative expenses; and loss from financial (iii) decrease derivatives. in to in adjustments The change loss, compared to the corresponding quarter last year, is mainly due to a decrease in loss recognized in the fourth quarter of 2014 with respect to revaluation of warrants embedded in the Company’s notes (Series L), compared to the corresponding quarter last year. Conversely, in the fourth quarter of 2014, expenses increased due to option granted to employees, CEO, officers and directors in December 2013 and in 2014. Adjusted loss (1,130) (2,242) (50%) The decrease in adjusted loss, compared to the corresponding quarter last year is primarily due to improved gross profit due to the increase in sales and to improved gross margin, as well as to decrease in general and administrative expenses. 5. Liquidity In the reported period, the Company increased its investors’ base, which are interested parties by raising funds from investors who are leading institutional investors. The fund raising will enable the Company to invest in its current operations: (i) increase sales and marketing effort in markets on which Company operations are focused: U.S., Japan and Israel. These efforts have started to yield results which are reflected in higher sales over the past four quarters; and (ii) accelerated research and development operations by the Company and early launch of improvements and new indications for the Company’s products. 14 Activity Type Operating activities For the Year Ended December 31, 2014 2013 Dollars in thousands Change Increase (Decrease) % (5,443) (4,762) 14% Company Explanations The increase in cash flows used in operating activities is primarily due to: (a) increase in trade receivables, primarily due to sales concentrated in the last month of the quarter; (b) increase in inventories in the current year, compared to decrease in the previous year; (c) increase in interest payment to holders of notes (Series A), notes (Series L) and on the loan the Company’s shareholders; and (d) decrease in other accrued accounts expenses. This increase was partially offset by: (i) a decrease in operating loss, excluding the effect of options granted to employees, CEO, officers, consultants and directors; and (ii) an increase in trade payables, compared to the previous year due to an increase in supply of goods. four of payable from and in Investing activities Financing activities (3,176) (6,220) (49%) Cash flows used in investing activities in the current year are primarily due to purchase of available-for-sale securities using proceeds from equity issuance, net of repayment of notes (Series A). 6,930 16,032 (57%) in flows provided by Cash financing the current year were activities primarily due to private placements with institutional investors and due to a loan received by way of offset against notes repayment, to the four of the Company’s shareholders. This positive cash flow was partially offset by repayment of notes (Series A). In the previous year year, cash flows provided by financing activities resulted from debt raised on the TASE, by issuance of notes (Series L), amounting in total, net of issuance expenses, to $19.9 million. Conversely, the Company repaid principal of various loans. Activity Type For the Three-Month Period Ended December 31, 2014 2013 Dollars in thousands Operating 83 (881) Change Increase (Decrease) % 15 Company Explanations The transition from cash flows used in operating activities in the corresponding Activity Type For the Three-Month Period Ended December 31, 2014 2013 Dollars in thousands Change Increase (Decrease) % activities Investing activities (1,130) 2,599 Financing activities - 4,379 (100%) 6. Financing sources 6.1 Overview Company Explanations quarter last year to cash flows provided by operating activities in the current quarter, is primarily due to: (i) a decrease in operating loss, excluding the effect of to employees, CEO, options granted officers, consultants and directors; (ii) a substantial increase in receivables in the current the corresponding quarter last year. This improvement was partially offset by: (i) increase in inventories in the current quarter, compared to a decrease in the corresponding quarter last year; and (ii) a substantial increase in other accounts payable and in to the corresponding quarter last year. rued expenses, compared compared quarter, to Cash flows used in investing activities in the current quarter are primarily due to: available-for-sale of purchase (a) securities; (ii) loss from a hedging transaction; and (iii) purchase of property and equipment and intangible assets. In the corresponding quarter last year cash flows activities resulted from redemption of short-term bank deposits. investing provided financing In the current quarter there were no operating activities. Cash flows provided by the corresponding quarter last year are due to proceeds from issuance of shares to an institutional investor and from exercise of stock options. activities in Since its initial public offering in March 2007, the Group financed its operations primarily by issuance of equity and debt to the public and to institutional investors and by private loans from shareholders. For more information about the Company’s financing and grants received from the Chief Scientist, see Sections 24 and 18.3, respectively, in Part A of this Annual Report. 16 6.2 Private placement with institutional investors Following the equity placement conducted in December 2013 in which the Company raised $4.3 million. in January 2014, the Company conducted a material private equity placement with HaPhoenix (which became an interested party in the Company upon conclusion of this issuance), for a total consideration of $5.2 million. In May 2014, the Company conducted another material private equity placement with Migdal, which is an interested party in the Company, and with Yelin Lapidot (which became an interested party in the Company upon conclusion of this issuance), for a total gross consideration of $6.8 million. Exercise of convertible securities During the year ended December 31, 2014, employees and a director exercised 1,828,000 options for a total consideration paid to the Company of $305,000. In addition, NIS 740 par value of convertible notes (Series L) were converted into ordinary shares. 6.3 Line of Credit from a bank The Company has a line of credit from a bank in the total amount of NIS 100 thousands. 6.4 Shareholders’ credit facilities Credit facility – March 2011 In February 2014, the Company made a third and final withdrawal on the credit facility provided in March 2011 by the than four shareholders, amounting to additional $1.9. Irrecoverable undertaking to provide a credit facility – January 2015 In January 2015, the Company received an irrecoverable undertaking to provide a credit facility from three of its shareholders in the total amount of NIS 9,058,131 (approximately $2.3 million) during January 2017 through February 28, 2017.For more information about the undertaking to provide a credit facility from January 2015, see Section 24.5 of Part A of this report. 6.5 Equity, cash balances, deposits and securities and future equity issues As of December 31, 2014, the Company has capital deficiency of $4,957 thousands. As of December 31, 2014, the Group has cash and cash equivalents and investments in NIS denominated money market funds, amounting to $18,836 thousnds. The Company reviews from time to time options to raise capital, including through issuance in the TASE or through private placement with investors in Israel and/or overseas. The funds raised or to be raised are designated to help the Company realize its growth potential, focusing on its target markets (in line with the Company’s strategy), to accelerate development processes and to maintain the Company’s capacity to achieve its other business and financial targets and to fulfill its liabilities (including repayment of notes (Series L)). 17 6.6 Long-term loans (including current maturities) The average balance of long-term loans in the year ended December 31, 2014 amounted to $16,263 thousands, compared to $17,874 thousands in the previous year. 7. Summary of exposure to market risk and management thereof Sensitivity to change in exchange rates of the dollar against other currencies (sensitivity to dollar revaluation or devaluation against other currencies) Assets and liabilities Gain (loss) from change 10% increase in exchange rate 5% increase in exchange rate Fair value NIS EUR (1,604) 125 (804) 63 (16,057) 1,249 Gain (loss) from change 5% decrease in exchange rate 804 (63) 10% decrease in exchange rate 1,604 (125) Sensitivity to changes in the share price Gain (loss) from change 5% 10% increase increase in in share share price price 23% increase in share price Fair value Gain (loss) from change 10% 5% decrease decrease in share in share price price 23% decrease in share price Convertible notes (Series L) 3,572 1,343 671 (23,726) (1,002) (1,616) (3,460) Sensitivity to changes in interest rate Gain (loss) from change 10% increase in interest rate 5% increase in interest rate Gain (loss) from change 5% decrease in interest rate 10% decrease in interest rate Fair value* 636 322 (18,710) (331) (672) *Convertible notes, excluding the conversion component. Convertible notes (Series L) 18 Sensitivity to changes in standard deviation Gain (loss) from change 10% increase in standard deviation 5% increase in standard deviation Gain (loss) from change 5% decrease in standard deviation 10% decrease in standard deviation Fair value 555 279 (23,726) (282) (568) Convertible notes (Series L) As of the report date, the policy on market risk management and actual risk management are aligned. For more information about the policy and actual risk management, see Section 10 below. 8. Compensation of interested parties and senioroffice holders On January 14, 2014, the Company’s shareholders approved the Company’s compensation policy for the directors and other office holders for more information see immediate report of the Company dated December 1, 2014, reference: 2013-01-210786, the Company’s complementary report dated January 7, 2014, reference: 2014-01-008164, the Company’s complementary immediate report dated January 8, 2014, reference: 2014-01-009652 and immediate report of the outcome of the General Meeting of Company’s shareholders dated January 14, 2014, reference: 2014-01-015454) (the “Compensation Policy”). On January 22, 2015, subsequent to the report date, the Company’s Board of directors approved, after approval by the Company’s Compensation Committee, an increase of the employees of the Company and its subsidiaries, which is based on their performance, in a total amount of $250 thousand per year, out of which an amount of $36 thousand relates to office holders who are employed by the Company at least one year, as described in Section 9 of Part D of this report. The Company Board of Directors reviewed and found that officer remuneration, as set forth in Section 9 in Part D of this report (which is in conformity with Regulation 21 of the Reporting Regulations), is in line with the Compensation Policy. Chapter B – Exposure to Market Risk and Management Thereof 9. Exposure to market risk and management thereof The person responsible for management of market risk at the corporation The person responsible for market risk management at the Company is Mr. Shaul Sharoni, the Company’s CFO. For information about the CFO’s qualifications, education and experience, see Section 16 of Part D of this report. 19 Description of market risk to which the Company is exposed Exchange rate fluctuation risk Most of the Company’s payments, except for those of the U.S. and Japanese subsidiaries, are made in NIS, while most of its revenues are denominated in the functional currency (dollar) and in foreign currency (Euro and Japanese Yen (“Yen”)); therefore, the Company is exposed to the dollar/NIS, dollar/Euro and dollar/Yen exchange rates; it acts through its investment committee (consisting of four members), appointed by the Company’s Board of Directors, to reduce currency risk by maintaining liquid means on hand in short-term NIS-denominated deposits, in dollars, Euro and Yen, as well as purchasing hedging transactions, from time to time, in accordance with the Company’s needs. Interest rate risk As of December 31, 2013, the Group has no exposure to interest rate risk, since all its borrowing is based on fixed interest rates. Financial instrument risk The Group is exposed to change in value of financial instruments in which it invests from time to time, in order to hedge its exposure to NIS and other foreign currency exchange rates. Exposure to change in value of securities The Group is exposed to change in value of securities in which it has invested. In June 2013, the Company invested approximately $6.6 million in NIS-denominated money market funds. As of December 31, 2014, the balance of this investment amounts to approximately $6.2 million. The decrease resulted from the devaluation of the NIS against the dollar. In addition, in May and December 2014, the Company investment approximately $2.9 million with two brokers, which invest, according to the Company’s investment policy in government bonds and NIS-denominated corporate bonds, with no exposure to shares. State of global financial markets The Group’s results of operations were in the past and are currently impacted by the economic slow-down in Japan, as well as by the deteriorating financial crisis in the Euro Zone countries, where the Group’s products are sold. The deteriorating financial crisis in the Euro Zone countries and Japan, which are major target markets for the Group, may further increase the negative impact on the Company results of operations and may lead to lower demand for the Group’s products in these markets. Company policy with regard to market risk management The Company, through the person responsible for market risk management at the Company and in consultation with the Company’s investment committee, periodically evaluates the current economic and accounting exposures and how these may be mitigated, through work meetings. Based on these evaluations, the Company formulates, from time to time, its investment policy, by specifying investment options for cash and cash equivalent balances at the Company, specifying the risk associated with each such investment option. 20 In general, the Company strives to align, in as much as possible, the linkage basis of its financial assets with that of the cash flow to be served by said assets. Consequently, since the great majority of the Company’s expenditures is NIS-denominated and in order to reduce such exposure, the Company invests most of its liquid balances in NIS-denominated assets and converts, from time to time, its cash and cash equivalent balances from Euros to NIS, in order to avoid the risk of unexpected fluctuations in exchange rates. Cash balances in dollars, which form the majority of proceeds from sales overseas, are kept in this currency until needed to make payments in NIS, or when the investment committee considers it beneficial to convert dollars into NIS. The Company periodically reports its investments and investment results to the Company’s investment committee. As of December 31, 2014, the Company has contracts denominated in dollars (or Euros) with distributors and customers; conversely, the great majority of its expenditure is in NIS. Material change in dollar/NIS exchange rates (or Euro/NIS or Yen/NIS) could materially impact the Company’s profitability. Therefore, the Company has material exposure to exchange rate risk. In order to reduce this exposure, which could affect the Company’s profitability, and in accordance with the Company’s market risk management policy, the Company enters, from time to time, into hedging transactions using financial derivatives with regard to the dollar/NIS exchange rate, such as cylinder transactions, forward transactions or writing call options. The Company does not intend to keep material balances in Euro or Yen. In the year ended December 31, 2014, the Company converted to NIS most of its cash Euro balances. Thus, the Company materially reduced its exposure to changes in the dolla/Euro exchange rate. In December 2013 and in January 2014, the Company made a material private equity placement to two institutional investors, for gross consideration amounting to $9.5 million (received in NIS). In May 2014, the Company raised a further $6.8 million (received in NIS) from other institutional investors. The Investment Committee, at its meetings held on February 12, 2014 and on June 16, 2014, resolved to invest the Company’s cash balance in bank deposits, NIS-denominated money market funds and with portfolio managers. The Company also decided to hedge its dollar/NIS currency exposure through dollar/NIS put options for six-month and one-year terms. The six-month dollar/NIS options written in December 2013 expired worthless (so that the Company was not required to make a further payment to the bank). The Investment Committee, at its meeting on November 6, 2014, following the sharp revaluation of the dollar against the NIS in the three months preceding the meeting, decided to realize the loss and to close all dollar/NIS put options outstanding as of the said date. The cost of closing these options amounted to $169,000. Other than the foregoing, the Company made no other investments in derivatives during the reported period. Supervisory means and policy implementation Supervision of the market risk management policy and implementation thereof lies with the Chief Risk Officer of the Company and with the Company’s investment committee (appointed 21 by the Board of Directors and consisting of Board members), which usually convene semi- annually or whenever the Company is exposed to a significant event or required to make strategic decisions. The Company’s market risk management policy is supervised through other means, as follows: The person responsible for market risk management at the Company provides to the investment committee, semi-annually, a report on market risk management and on Company investment composition, in line with the Company’s cash flow. 10. Linkage basis report For information about the linkage terms of monetary balances as of December 31, 2014 and 2013, see Note 25a to the Company’s consolidated financial statements. 11. Sensitivity analysis In conformity with the Regulations, below is a report on exposure to financial risks. This report includes sensitivity analysis to fair value of financial instruments. This sensitivity analysis tested the impact of market risk on fair value. Sensitivity analysis was conducted using 5% and 10% change (upwards and downwards). Sensitivity analysis was performed in respect of: 11.1 Sensitivity to changes in exchange rates - Excess liabilities over assets on the NIS-linked statement of financial position items (linked and not linked) for the amount of $12,974 thousands. For more information about hedging transactions conducted by the Company, see Section 10 above. - Excess assets over liabilities on the Euro statement of financial position items, amounting to $1,249 thousands. - Excess assets over liabilities on the Yen statement of financial position items, amounting to $228 thousands. 11.1.1 Sensitivity to changes in dollar/NIS exchange rate (dollars in thousands): This sensitivity analysis is based on the exchange rate as of December 31, 2014 - $0.2571 per NIS 1. Assets and liabilities Cash and cash equivalents Investments in marketable securities available-for sale Trade receivables Gain (loss) from change 10% increase in exchange rate 5% increase in exchange rate Fair value Gain (loss) from change 5% decrease in exchange rate 10% decrease in exchange rate 343 171 3,429 (171) (343) 446 2 8,919 49 (446) (2) (892) (5) 892 5 22 Other receivables Restricted deposit Trade payables Other accounts payable Derivatives Loans from shareholders Convertible notes Total 13 13 (52) (45) (916) (159) (1,687) (1,604) 7 7 (26) (23) (458) (80) (844) (804) 131 131 (521) (453) (9,162) (1,594) (16,871) (16,057) (7) (7) 26 23 458 80 844 804 (13) (13) 52 45 916 159 1,687 1,604 11.1.2 Sensitivity to changes in dollar/EUR exchange rate (dollars in thousands): This sensitivity analysis is based on the exchange rate as of December 31, 2014 - $1.2149 per EUR 1. Assets and liabilities Gain (loss) from change 10% increase in exchange rate 5% increase in exchange rate Gain (loss) from change Fair value 5% decrease in exchange rate 10% decrease in exchange rate Cash and cash equivalents Trade receivables Other receivables Other accounts payable Total 66 65 1 (7) 125 661 33 650 33 5 - (3) (67) 63 1,249 (33) (33) - 3 (63) (66) (65) (1) 7 (125) 11.2 Sensitivity to change in the share price (dollars in thousands): Gain (loss) from change 5% 10% 23% increase increase increase in fair in fair in share value value price Fair value Gain (loss) from change 10% decrease in fair value 5% decrease in fair value 23% decrease in fair value Convertible notes (Series L) 3,572 1,343 671 (23,726) (1,002) (1,616) (3,460) On June 22, 2008 the fair value of Company convertible notes (Series A) decreased by 23%. 11.3 Sensitivity to change in interest rate (dollars in thousands): Loans from shareholders Convertible notes (Series L)* Commitment to the Chief Scientist Total Gain (loss) from change 10% increase in interest rate 5% increase in interest rate Fair value Gain (loss) from change 5% decrease in interest rate 10% decrease in interest rate 26 286 10 322 (1,594) (16,871) (244) (18,710) (27) (294) (10) (331) (55) (596) (21) (672) 52 565 19 636 23 *The debt component. 11.4 Sensitivity to change in standard deviation (dollars in thousands): Gain (loss) from change 10% increase in interest rate 5% increase in interest rate Fair value Gain (loss) from change 5% decrease in interest rate 10% decrease in interest rate Convertible notes (Series L) 555 279 (23,726) (282) (568) Chapter C - Corporate Governance Aspects 12. Charitable donations The Company has not adopted any policy with regard to charitable donations. The Company made no material charitable donations in the reported period. 13. Directors with accounting and financial expertise The Board of Directors has determined that the appropriate minimum required number of directors with accounting and financial expertise will be two directors. As of the report date, the Company regards the following directors as having accounting and financial expertise: Ms. Miri Katz, Ms. Regina Ungar and Mr. Ilan Biran. For more information about the qualifications of the aforementioned directors, see Chapter 15 in Part D of this Annual Report. 14. Independent directors On October 7, 2014, the Company’s shareholders approved the amendment of the Company’s Bylaws, whereby external and independent directors would constitute a majority of the Board members in office. For more information see the Company’s immediate report convening an annual and extraordinary general meeting of the Company’s shareholders, dated September 1, 2014 (reference: 2014-01-149151). As of the report date, two independent directors serve on the Company’s Board of Directors (Dr. Samuel Morry Blumenfeld and Mr. Ilan Biran) and two external directors (Ms. Miri Katz and Ms. Regina Ungar), all together constituting the majority of incumbent directors serving on the Company’s Board of Directors. 15. Internal Auditor of the Company Item Details Name Mr. Doron Cohen, CPA – Partner at Fahn Kanne Control Management Ltd. (a member firm of Grant Thornton). Start of term in office July 26, 2007 24 Item Details Compliance with statutory provisions The Auditor is in compliance with provisions of Section 146(b) of the Companies Law, 1999 and the provisions of Sections 3(a) and 8 of the Internal Audit Law, 1992. Holding of securities of the Company or affiliated entity thereof As of the report date, the Company is unaware of any holdings which the firm of Fahn Kanne, CPAs has acquired, by itself or through employees thereof, of securities of the Company or affiliated entity thereof. Material business or other relations with the Company or affiliated entity thereof None Is the Auditor employed by the Company or an external service provider thereto? Identity of the Internal Auditor’s supervisor within the organization Work plan Overseas audit or audit of investees Scope of employment The Internal Auditor is not employed by the Company, but rather is an external service provider to the Company (as Partner of Fahn Kanne Control Management Ltd. (a member firm of Grant Thornton)) - and has no other position with the Company. Mr. Martin Grestel, Co-chairman of the Board of Directors The internal audit plan is determined based on the outcome of the risk survey conducted in the fourth quarter of 2007. The audit plan is an annual plan, with the scope and timing of matters audited in 2014 determined by the Audit Committee and by the Internal Auditor in conformity with the risk survey report, as stipulated by section 149 of the Companies Law and in conformity with the fraud and embezzlement survey conducted in the Company in 2010. The Internal Auditor may not deviate from the work plan without prior approval of the Audit Committee. As part of the Internal Auditor’s 2010 audit plan, with a scope of 220 hours, the Internal Auditor conducted an audit of the U.S. subsidiary Itamar Medical Inc., which was incorporated and operates in the U.S. The audit at this subsidiary included the following matters: sales, inventories, customer service, payroll, expenses and IT. Another audit was done in the second half of 2014. The scope of employment of the Internal Auditor and its team for 2014 was specified at 370 hours. Deviation from the total number of hours is only allowed subject to approval of the Audit Committee and the Board of Directors. The Company considers the scope and nature of the Internal Auditor’s work plan the to be circumstances and appropriate for implementation of the reasonable under 25 Item Details Internal Audit objectives, since the matters selected are material for the Company and would be reviewed from different aspects. Audit of operations in Israel (in hours) Audit of operations overseas (in hours) 170 - - 200 Internal Audit in the Company Internal audit in the subsidiary – Itamar Medical Inc. Based on information provided to management by the Internal Auditor, the latter conducts the audit based on professional standards generally accepted in Israel, in conformity with professional guidelines for internal audit, in conformity with the Internal Audit Law and in conformity with the Companies Law. The Company’s Board of Directors relies on the Internal Auditor’s report with regard to the latter’s compliance with professional standards applied in conducting the audit. The Internal Auditor has full, unrestricted, direct access to IT systems and to financial data for conducting the audit, in conformity with Section 9 of the Internal Audit Law - both in the Company and in its subsidiaries. With regard to internal audit of the U.S. subsidiary in 2010 and in 2014, the Internal Auditor travelled to the U.S. for a week to conduct his audit. The audit included meetings with staff at the office, interviews as well as physical and evidentiary audit. Findings of the Internal Auditor are regularly reported in writing, throughout that year, to the Chairman of the Board of Directors, to the CEO, to the Chairman of the Audit Committee and to the Company’s Independent Auditors. The Audit Committee discusses the Internal Auditor’s findings and determines the schedule and persons responsible for implementation of those recommendations approved by the Audit Committee. On March 23, 2014, the Audit Committee discussed the Internal Auditor’s report with regard to implementation of the latter’s recommendations concerning manufacturing and manufacturing planning. 26 Conducting the audit (professional standards applied by the Internal Auditor in executing the audit plan) Access to information Internal Audit report Reports submitted and discussed during the reported period Item Details On May 20, 2014, the Audit Committee discussed the Internal Auditor’s report with regard to implementation of the latter’s recommendations concerning quality assurance. On November 18, 2014, the Audit Committee discussed the Internal Auditor’s report with regard to implementation of the latter’s recommendations concerning the U.S. subsidiary. On March 19, 2015, the Audit Committee discussed the Internal Auditor’s report with regard to the Company’s budget. Board of Directors’ assessment of the Internal Auditor’s activities The Board of Directors believes the scope, nature, continuity of operations and the work plan to be reasonable for achieving the Internal Audit objectives. Remuneration of the Internal Auditor Remuneration of the Internal Auditor is set at a pre- determined rate per work hour. In return for tits work, the Company would pay the Internal Auditor NIS 220 per hour. The Board of Directors believes that this remuneration of the Internal Auditor would not influence, nor impair the latter’s professional judgment. To the best of the Company’s knowledge, the Internal Auditor does not hold any securities of the Company. 16. Independent Auditor’s fee The firm of Somech Chaikin, CPAs is the Company’s Independent Auditor. The following table lists summary data with regard to the Independent Auditor’s fee for their services to the Group in 2013 and in 2014: 2014 2013 Total pay (dollars in thousands) Total pay (dollars in thousands) Work hours Work hours 3,119 150 3,307 181 Audit services, audit-related services and tax services Other services 116 9 - - The Independent Auditor’s fee was approved by the Company Board of Directors, after a recommendation was made by the Audit Committee; it was determined based, among others, 27 on the scope of work of the Independent Auditor and based on the Company’s past experience, and comparison done to audit fees in comparable public companies. 17. Approval of the financial statements Management compiles and prepares the financial statements and the Independent Auditor audits or reviews them. The Company organ responsible for overall control (as defined in Opinion 76 of the Institute of Certified Accountants in Israel) with regard to approval of the financial statements is the Board of Directors, which as of the report date consists of seven members: Dr. Giora Yaron (Co-Chairman of the Board of Directors); Mr. Martin Gerstel (Co-Chairman of the Board of Directors); Mr. Gary Ellis (director); Mr. Ilan Biran (independent director); Dr. Samuel Morry Blumenfeld (independent director); Ms. Miri Katz (external director); and Ms. Regina Ungar (external director). The Company has resolved that the Audit Committee would also serve as the Company’s Financial Reporting Committee (the “Committee”), in conformity with provisions of Companies Regulations (Provisions and Conditions regarding Financial Statement Approval Process), 2010. The Company’s Audit Committee consists of three members: Ms. Regina Ungar (external director, Committee Chairperson); Ms. Miri Katz (external director); and Mr. Ilan Biran (independent director). The three Committee members all have accounting and financial expertise and are capable of reading and understanding financial statements, and have provided statements to this effect prior to their appointment. For details regarding their skill, education, experience and knowledge, based on which the Company regards them as having accounting and financial expertise and as being qualified to read and understand financial statements, see Section 15 in Part D of this Annual Report. Prior to the meetings of the Committee and of the Board of Directors, all members thereof receive a copy of the Company’s financial statements. At the meetings of the Committee and of the Board of Directors, the directors have the opportunity to raise questions regarding the financial statements and to the audit or review process conducted by the Company’s Independent Auditor. The Company’s Independent Auditor, President and CEO and/or CFO respond to questions raised by directors, as the case may be. After discussion and responding to all questions raised by directors, a vote is held to approve the financial statements. After approval of the financial statements by the Board of Directors, the Chairman of the Board of Directors, the President and CEO and the CFO are authorized to sign the financial statements. Approval of the financial statements for the year ended December 31, 2014 consisted of two meetings, as follows: On March 19, 2015, the Committee held a meeting to form its recommendations to the Board of Directors with regard to approval of the financial statements. The Company’s Internal Auditor and Independent Auditor were invited to attend this Committee meeting. The Committee meeting was attended by the following Committee members: Ms. Regina Ungar (external director, Committee Chairperson); Ms. Miri Katz (external director); and Mr. Ilan Biran (independent director). The meeting was also attended by Dr. Giora Yaron, Co- Chairman of the Board of Directors; Gilad Glick, President and CEO; Mr. Shaul Sharoni, CFO; and the Company’s Independent Auditor. At the Committee meeting, the following matters were discussed, among others: assessments and estimates with regard to the financial statements for the year ended December 31, 2014; completeness and appropriateness of disclosure on the financial statements for the year ended December 31, 2014; changes made 28 to accounting policy and accounting treatment applied to issues material for the Company; valuations, including underlying assumptions and estimates, relied upon in the financial statements for the year ended December 31, 2014. The discussion included a presentation of the aforementioned matters by the Company’s CFO and comments by the Independent Auditor on the matters presented. After presentation of the financial statements and discussion by the Committee, the Committee resolved to recommend that the Board of Directors approve the financial statements. The recommendations made by the Committee were provided in writing to Board members on March 20, 2015. On March 23, 2015, the Board of Directors held a meeting to discuss and approve the financial statements. At this meeting, the Board of Directors did discuss the Committee’s recommendations and approved the Company’s financial statements as of December 31, 2014. The Board of Directors considers that the Committee’s recommendations were provided to the directors in a timely manner prior to the aforementioned Board meeting, in view of the scope and complexity of these recommendations. The aforementioned Board meeting was attended by the following directors: Dr. Giora Yaron, Mr. Martin Gerstel, Mr. Gary Ellis, Mr. Ilan Biran, Ms. Regina Ungar, Ms. Miri Katz and Dr. Samuel Morry Blumenfeld. Chapter D – Disclosure with Regard to Financial Reporting by the Corporation 18. Subsequent events mentioned in the financial statements For subsequent events in the financial statements, see Note 28 to the Company’s financial statements as of December 31, 2014. 19. Critical accounting estimates In preparation of the financial statements, management is required to exercise judgment in making estimates, assessments and assumptions which impact application of accounting policy and reported amounts for assets and liabilities, revenues and expenses. The estimates and the underlying assumptions thereof are regularly reviewed. Changes to accounting estimates are recognized in the period in which such change occurs. The following are the major assumptions made in the financial statements with regard to uncertainty as of the report date, as well as critical estimates calculated by the Company, where a material changes in such estimates and assumptions may alter the value of assets and liabilities in the financial statements for the next reporting year. Obligation to the Chief Scientist For details about the obligation to the Chief Scientist, see Section 18.3 of Part A of this report. Valuation of embedded warrants in convertible notes (Series L) In March 2013, the Company issued, in conjunction with a public offering and private placement (see Note 28b to the Company’s consolidated financial statements), NIS 76 million par value convertible notes. The notes bear interest at 8.65% per annum, with principal and interest not-linked. Interest on the notes is payable semi-annually, from 2013 29 through 2018. The notes are convertible, such that each NIS 1.92 par value notes may be converted into one ordinary share of NIS 0.01 par value. In conformity with IFRS, convertible notes are to be bifurcated into two components: a liability component with no conversion rights, which is measured at depreciated cost using the effective interest method, and a conversion option linked to the Israeli Consumer Price Index, is measured at fair value upon each reporting date. Changes to fair value of this component are recognized in the statement of operations in each period. The valuation was prepared by PricewaterhouseCoopers Consulting Ltd. (the “appraiser”), which specializes, among others, in corporate valuation, valuation of employee stock options, financial instruments and financial derivatives. The appraiser has no personal interest in shares of the Company, shareholders thereof or affiliated parties thereof. The appraiser has no dependence on or affinity to these entities, as defined in the Companies Law, 1999. For more information about valuation of embedded warrants in notes (Series L), see the valuation report enclosed with this Annual Report. In valuing the conversion warrants, the valuator applied the binomial model, which allows for specification of complex realization and conversion conditions. The model also allows for specification of information which is variable over time. Valued item Equity component of convertible notes Equity component of convertible notes Equity component of convertible notes Equity component of convertible notes Valuator PricewaterhouseCoopers Consulting Ltd. PricewaterhouseCoopers Consulting Ltd. PricewaterhouseCoopers Consulting Ltd. PricewaterhouseCoopers Consulting Ltd. Valuation date Effective as of February 28, 2013 Effective as of March 12, 2013 Effective as of December 31, 2013 Effective as of December 31, 2014 Valuation(1) Resulting effect(2) - 7,450 Share price 153.7 Standard deviation 66.1% Discount rate 13.80% 1,692 - 156.9 65.9% 13.63% 13,019 3,877 203.7 63.0% 13.86% 9,162 (3,857) 190.9 62.1% 16.78% The valuation as of February 28, 2013, the date of the public offering, is for NIS 62,556,000 par value convertible notes; the valuation as of March 11, 2013, the date of the private placement, is for NIS 13,700,000 par value convertible notes. The valuation as of the report date is for total par value issued in the public offering and in the private placement. (1) Data in dollars in thousands. The valuation was made in NIS and translated into dollars using the exchange rate upon the valuation date. (2) Resulting effect in dollars in thousands, for the reported period. 20. Warning signs The Company Board of Directors, at its meeting held on March 23, 2015, discussed the provisions of Regulation 10(b)(14) of the Regulations regarding warning signs. When such 30 warning signs occur within the corporation, a reporting entity should enclose a disclosure of the forecasted cash flow with details of existing and anticipated liabilities of the corporation over the two years following the date of the financial statements (the “forecasted cash flow statement” and the “forecasted cash flow statement period”, respectively) Two of the aforementioned warning signs which occur at the Company are: capital deficiency and continuous negative operating cash flow. At the Board of Directors’ meeting, the following matters were discussed, amongst others: (i) the Company’s business plan, which includes updated targets and options to align the Company with the markets in which it does business and at which it targets its products; (ii) data with regard to estimated sales volume by the Company for the forecasted cash flow period (including estimates by the Company with regard to continued proceedings for adoption of insurance coverage in the U.S. for Company products by private insurers) ; (iii) total Company expenses for the period, adjusted for its economic and business environment; and (iv) the Company’s current and anticipated liabilities over the forecasted cash flow period, including with respect to Company notes (Series L). The Board also reviewed the financing sources available to the Company, as listed in section 6 above. The Board of Directors was also presented with the Company’s current and anticipated liabilities over the forecasted cash flow statement period, including with respect to Company’ notes (Series L). As of December 31, 2014, the Company had cash and cash equivalents and investments in marketable securities balance of $18.3 million. In view of the foregoing, even though as of December 31, 2014, the Company had capital deficiency and continuous negative operating cash flow, the Company’s Board of Directors determined that as of the date of this report, the existence of the aforementioned warning signs does not indicate a liquidity problem and that there was no reasonable concern that, during the forecasted cash flow statement period, the Company may not fulfill its current and anticipated obligations when these become due. The Company’s Board of Directors continued to review, from time to time, the need for taking additional measures, including additional streamlining measures. The projected cash flow presented below includes increase in operating due to the change in strategy and in business focus applied by the Company, as described in Part A of this Annual Report, which includes expansion of its marketing efforts and focusing on relevant markets for the Company’s products. The Company has a streamlining plan in place, which would be activated should the Company fail to achieve its objectivesin order to maintain sufficient cash flow sources. The Company’s budget assumes growth in the Company’s expenses in coming years. The Company has a streamlining plan in place, which would be activated should the Company fail to achieve its objectives. Below is the forecasted cash flow statement for the 24-month period following January 1, 2015 (dollars in millions): 31 January 1, 2014 through December 31, 2014 (Forecasted) January 1, 2014 through December 31, 2014 (Actual) Notes January 1, 2015 through December 31, 2015 January 1, 2016 through December 31, 2016 Opening balance – excluding pledged deposits Own sources: Cash flow provided by operating activities Cash flow provided by financing activities: Credit facility from major shareholders Issuance of shares upon exercise of options Capital raising Sources – from investees: Total sources Expected liabilities (expected use): Cash flow used in financing operations Repayment of convertible notes Interest payment on notes Interest payment on loan from shareholders Total uses Closing balance 1 5 3 5 5 5 2 2 3 19.0 19.0 18.3 10.1 (7.1) (5.1) (10.7) (10.5) 1.9 5.3 3.8 3.9 22.9 7.1 2.2 0.1 9.4 13.5 1.9 0.3 11.8 (0.2) 8.7 27.7 7.1 2.2 0.1 9.3 18.3 - - - 4.4 (6.3) 12.0 - 1.7 0.2 1.9 10.1 - - - 8.5 (2.0) 8.1 - 1.7 0.2 1.9 6.2 1. The balance of liquid assets (including cash and cash equivalent and investments in securities (NIS-denominated money market funds)) refers to the Company and its wholly-owned subsidiaries. The Company does not foresee any restrictions on transfer of liquid assets between the Company and its subsidiaries in the U.S. and Japan. 2. Calculated based on outstanding par value and dollar/NIS exchange rate of 3.80. 3. Calculated based on loan principal and dollar/NIS exchange rate of 3.80. In February 2014, the Company made a third and final withdrawal on the credit facility provided by four shareholders, amounting to $1.9 million (in NIS) (for more information, see Section 24.4 of Part A of this Annual Report). 4. Sensitivity to exchange rate fluctuations: In March 2013, the Company raised $19.5 million (in NIS currency) by issuance of notes (Series L) (convertible notes bearing NIS-denominated interest at 8.65% per annum), to support sales and marketing growth as well as development of new applications and products (for more information about the notes, see Section 24.3 of Part A of this Annual Report). 32 5. In May 2014, the Company conducted a material private placement of shares with Yelin Lapidot Investment House Ltd. and Migdal Insurance Company Ltd. for total net consideration of $6.7 million. As a result, the Company’s Board of Directors approved, in July 2014, to accelerate the budget against the original budget which was approved in January 2014, which was the basis for the 2014 forecast. 6. The Company reviews, from time to time, options to raise capital, including through issuance on the TASE or through private placement with investors in Israel and/or overseas. The funds to be raised are designated to enable the Company to realize its growth potential while allowing the Company to support all its other business and financial objectives and liabilities (including redemption of notes of various series). 7. In the first quarter of 2017, the first tranches of notes (Series L) and shareholders’ loans in the total amount of NIS 45,215 thousand ($11,626 thousand translate at the exchange as of December 31, 2014) are due. Out of this amount, an amount of NIS 9,920 thousand ($2,551 thousand translate at the exchange as of December 31, 2014) relates to notes owned bty the major shareholders and loans from such shareholders. Assuming that the convertible notes (Series L) (par value of NIS 76.3 million will not be converted, the cash and cash equivalents and other liquid investments of the Company with the addition of positive cash flows from operating activities in the first quarter of 2017 will not be sufficient to repay such notes. As mentioned in sub-section 7 above, the Company reviews, from time to time, options to raise capital, but three is no assurance that the Company will be successful in raising the funds needed to repay such amounts. It should be noted that during 2013 and 2014, the company was able to raise capital by way of issuance convertible notes and shares to institutional investors in amounts exceeding materially the amount needed for the aforementioned debt repayment. In case that the market conditions will not enable the abovementioned capital raising (or only partial capital raising will occur), the Company will reduce its operating activities in order to reduce its operating costs in order to help itself in repaying such debt. In addition, on January 2015, the Company received an irrecoverable undertaking to provide a credit facility from three of its shareholders in the total amount of NIS 9,058,131 (approximately $2.3 million) during January 2017 through February 28, 2017. The amount represents the amounts due to such shareholders on February 28, 2017. For more information see Section 24.5 of Part A of this report. The Company’s forecasted cash flow and aforementioned information constitute forward- looking information , as this term is defined in the Securities Act. Forward-looking information is uncertain information with regard to the future, based on information or estimates currently available to the Company, including intents of or assessments by the Company as of the publication date of this report. These assumptions depend on external and macro-economic factors over which the Company has no influence or limited influence. This information, in whole or in part, may not materialize or may materialize differently due, inter alia, to failure of Company estimates to materialize with regard to Company revenues and expenses over the forecasted cash flow statement period, exchange rate fluctuations, increasing competition in markets in which the Company does business and any other risk 33 factors for the Company, technology innovations, lack of sufficient reimbursement for use of Company products. 34 Chapter E – Specific Disclosure for Noteholders 21. Additional information with regard to outstanding convertible notes (Series L) 21.1. Information with regard to notes Convertible notes (Series L) First issuance date on the TASE: March 3, 2013 Par value upon issue: NIS 62,556,000 par value (in March, soon after the public issuance, the Company extended this notes series by private placement of NIS 13,700,000 par value notes (Series L)). Par value as of December 31, 2013: 76,256,000 Par value (according to linkage terms) as of December 31, 2014: 76,255,260 Accrued interest as of December 31, 2014: $576 thousand Fair value in the financial statements as of December 31, 2014: $22,667 thousand (includes $9,162 thousand with respect to the conversion component including accrued interest). Traded on stock exchange: Traded on the TASE. Value on the TASE as of March 20, 2015: NIS 92,726 thousand (for NIS 76,255 thousand par value). Type of interest: Fixed interest at a rate of 8.65% per annum. Principal payment schedule: Interest payment schedule: Principal is payable in two installments on February 28 of each year from 2017 through 2018 (inclusive). Interest for these notes is payable semi-annually on February 28 and August 28 of each year from 2013 through 2018 (inclusive). Linkage basis and linkage terms: Not-linked. Are the notes convertible: Yes. NIS 1.92 par value notes for 1 ordinary share (subject to adjustments in conformity with terms and conditions of the notes). Company right to call for early redemption or forced conversion: Guarantee of payment of Company liabilities in conformity with the Deed of Trust: None . None 35 Is the note series material: Yes Convertible notes (Series L) The Deed of Trust includes adjustment provisions for conversion terms of the notes upon occurrence of any of the following events: Payments made during or after the reported period: Additional information: bonus share distribution; rights issuance; dividend distribution. During the year ended on December 31, 2014 interest in the amount of $1,872 thousand was paid and on February 28, 2015 an additional interest in the amount of $837 thousand was paid. For more information about notes (Series L), including causes for demanding immediate redemption, see shelf offering report dated February 27, 2013 (reference: 2013-01-049497) which includes the Deed of Trust. 21.2. Details of the Trustee for notes: Name of trust company: Reznick, Paz, Nevo Trustees Ltd. Address for serving documents: 14 Yad Harutzim Street, Tel Aviv Convertible notes (Series L) Telephone: Fax: Email: Person responsible for notes on behalf of the Trustee: 03-6389200 03-6389222 yossi@rpn.co.il Mr. Yossi Reznik 21.3. Information with regard to note conversion Notes (Series L) Securities into which the notes may be converted: Company ordinary shares Par value per share: NIS 0.01 Price per share on the TASE on December 31, 2013: NIS 1.909 Conversion ratio: Each NIS 1.92 par value of notes (Series L) may be converted into one ordinary share of NIS 0.01 par value, subject to adjustments in conformity with 36 Highlights of conversion terms and conditions: Adjustments for dividend distribution: Notes (Series L) terms and conditions of the notes. On any trading day at the TASE from the listing date for trading on the stock exchange through February 12, 2018 (the “final conversion date”), in conformity with stock exchange guidelines, except for the following dates: (1) between February 13, 2017 and February 28, 20171, but if the final conversion date prior to the partial redemption occur on a non-trading day, the conversion date would postponed to the next trading day; and except for (2) on the effective date for bonus share distribution, for offering by way of rights, for dividend distribution, for share capital split / reverse split / reduction (each of these, hereinafter: “a corporate event”) (hereinafter: “the conversion period”). Moreover, should the Ex-day for a corporate event occur prior to the effective date for a corporate event, no conversion would be made on said Ex-day. Should the Company distribute any dividends during existence of the conversion right of convertible notes (Series L), the conversion rate would be multiplied by the ratio of the base ex-dividend price and the closing price per share on the stock exchange on the most recent trading day prior to the ex-dividend date. The would disclose in an Immediate Report the adjusted exercise rate prior to start of trading on the day when shares are to be traded ex-dividend. 21.4. Information about the Company’s right to call for early redemption Notes (Series L) In case of de-listing from the stock exchange: At the Company’s discretion: None None 21.5. Notes (Series L) stipulate a list of events which, should they occur, would constitute cause for demanding immediate repayment of the notes, including the following events (which are listed in summary, where the full text is listed in the shelf offering report issued by the Company on February 27, 2013 (reference: 2013-01-049497) with the enclosed Deed of Trust). a. Should the Company fail to publish any financial statements it is liable to publish by law, within 30 days from the deadline for such mandatory publication. 1 The three days prior to the effective date for partial redemption through the partial redemption date. 37 b. Should another note series issued by the Company, or a loan extended to the Company by any lender, exceeding 30 million or 10% of the Company’s financial debt, whichever is lower, be called for immediate repayment by a noteholder and/or by the trustee for said note series and/or by the lender, and the demand for immediate repayment has not been rescinded within 30 days from the said date of demand for immediate repayment. c. In case of change to the Company’s operations, such that the Company would cease to operate in the field of medical devices based on technology for monitoring the PAT signal developed by the Company, without prior consent of the General Meeting of the noteholders (by a simple majority). d. Should the Company sell to a third party (other than a company controlled by the Company) most of its assets within six consecutive months, without prior consent of the General Meeting of noteholders (by a simple majority). e. Should the Company distribute dividends to its shareholders in excess of 50% of the Company’s earnings which are distributable by law, based on the Company’s audited or reviewed consolidated financial statements, as the case may be, accumulated as from October 1, 2012, net of previous dividend distributions made as from the first issuance of the notes (Series L) on March 3, 2013. f. Should any of the three major shareholders of the Company: Medtronic International Technology, Inc.(“Medtronic”), Dr. Giora Yaron and Mr. Martin Grestel, sell or transfer to a third party (other than an entity controlled thereby) all or part of the Company’s shares they hold as of the publication date of the shelf offering report used in the first offering of the notes (Series L), i.e. March 3, 2013, subject to exceptions set forth in the Deed of Trust for the notes (Series L), as follows: - - Each of Medtronic, Dr. Giora Yaron and Martin Grestel may sell and/or transfer Company shares among themselves. Each of Medtronic, Dr. Giora Yaron and Martin Grestel may sell and/or transfer Company shares acquired after publication of the shelf offering report used in the first offering of the notes (Series L). Medtronic, Dr. Giora Yaron and Martin Grestel committed to the Company not to sell their Company’s shares other than subject to the aforementioned restriction. g. Should any of the three major shareholders of the Company: Medtronic, Dr. Giora Yaron and Mr. Martin Grestel, sell or transfer to a third party (other than an entity controlled thereby) all or part of the notes (Series L) they acquired by public tender in the first offering of the notes (Series L), i.e. March 3, 2013 - subject to exceptions set forth in the Deed of Trust for the notes (Series L), as follows: 38 - - Each of Medtronic, Dr. Giora Yaron and Martin Grestel may convert into shares (in this section: the “Conversion Shares”) those notes they acquired by public tender in the first offering of the notes (Series L), if the closing price per Company share on the TASE exceeded (over a period of 10 consecutive trading days prior to the conversion date, but not more than 30 days prior there to) 150% of the note conversion rate. Each of Medtronic, Dr. Giora Yaron and Mr. Martin Grestel may sell and/or transfer the Conversion Shares at any time. Medtronic, Dr. Giora Yaron and Mr. Martin Grestel committed to the Company not to sell their notes (Series L) acquired in the public offering. 21.6. Compliance with terms and conditions pursuant to the Deeds of Trust: To the best of the Company’s knowledge, as of the report date, the Company is in compliance with all terms and conditions of Deed of Trust for the notes (Series L) and no conditions give cause to demanding immediate redemption of the notes (Series L). The Company’s Board of Directors wishes to thank Group’s management and employees for their diligent work and contribution to the Company’s success. Dr. Giora Yaron Co-Chairman of the Board of Directors Gilad Glick President and CEO Date: March 23, 2015 39 ITAMAR MEDICAL LTD. FINANCIAL STATEMENTS AS OF DECEMBER 31, 2014 ITAMAR MEDICAL LTD. CONSOLIDATED FINANCIAL STATEMENTS AS OF DECEMBER 31, 2014 Table of Contents Consolidated Statement of Financial Position as of December 31, 2013 and 2014 Consolidated Statements of Operations for the Years Ended December 31, 2012, 2013 and 2014 Consolidated Statements of Comprehensive Income (Loss) for the Years Ended December 31, 2012, 2013 and 2014 Consolidated Statement of Changes in Capital deficiency for the Years Ended December 31, 2012, 2013 and 2014 Consolidated Statements of Cash Flows for the Years Ended December 31, 2012, 2013 and 2014 Notes to the Consolidated Financial Statements Page 3 5 6 7 10 11 - ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF FINANCIAL POSITION Assets Current assets: Cash and cash equivalents Investments in marketable securities available-for-sale Trade receivables Other receivable Inventories Total Current Assets Non-current assets: Restricted deposits Prepaid expenses Fixed assets Intangible assets Total non-current assets Note 15 15 14 26C 12 13 December 31, 2014 2013 U.S. dollars in thousands 9,417 8,919 3,195 606 1,432 11,950 6,931 2,048 629 1,090 23,569 22,648 131 109 550 206 996 314 111 481 341 1,136 Total assets 24,565 23,784 The accompanying notes are an integral part of these financial statements. 3 ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF FINANCIAL POSITION Liabilities Current liabilities: Trade payables Short-term employee benefits Current maturities of convertible notes Derivative instruments Provisions Accrued expenses Other accounts payable Total current liabilities Non-current liabilities: Convertible notes, net of current maturities Loans from shareholders Derivative instruments Long-term employee benefits Other long-term payables Total non-current liabilities Total liabilities Capital deficiency: Ordinary shares Additional paid-in capital Capital reserve in respect of transactions with shareholders Capital reserve in respect of currency translation adjustments Capital reserve in respect of securities available-for-sale Accumulated deficit Total capital deficiency Total liabilities, net of capital deficiency Note 18 19 20 22 23 19 27c 20 18 26a,b 16 December 31, 2014 2013 U.S. dollars in thousands 1,083 149 - - 350 1,177 1,953 704 172 7,198 8 271 1,133 1,930 4,712 11,416 12,929 1,634 9,162 76 822 24,623 29,335 467 80,242 1,151 (9) (454) (86,167) 12,740 - 13,031 90 1,150 27,011 38,427 385 68,238 935 (55) 242 (84,388) (4,770) (14,643) 24,565 23,784 Dr. Giora Yaron Chairman of the Board of Directors Gilad Glick Chief Executive Officer Shaul Sharoni Chief Financial Officer Approval date of the financial statements: March 23, 2015 The accompanying notes are an integral part of these financial statements. 4 ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF OPERATIONS Revenues Cost of revenues Gross profit Operating expenses: Selling and marketing expenses Research and development expenses General and administrative expenses Operating loss Financial income (expenses) Financial expenses Gain (loss) from change in fair value of derivatives instruments, net Financial income (expenses), net Income (loss) before income taxes Income taxes Net income (loss) Earnings (loss) per share: Basic (in U.S. dollars) Diluted (in U.S. dollars) Year Ended December 31, 2013 2012 2014 Note U.S. dollars in thousands (except per share data) 5 6 7 8 9 10 10 11 17 17 16,387 (4,798) 13,337 (4,258) 13,426 (3,802) 11,589 9,079 9,624 8,436 2,017 4,745 (3,609) (468) (2,817) 3,743 458 (3,151) (124) 7,396 1,893 4,997 (5,207) 829 (5,235) (3,350) (7,756) (12,963) 44 5,685 1,692 2,762 (515) 275 (2,436) 2,992 831 316 201 (3,275 (12,919) 517 (0.02) (0.09) 0.01 (0.02) (0.09) 0.00 The accompanying notes are an integral part of these financial statements. 5 ITAMAR MEDICAL LTD. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 Note Net income (loss) (3,275) (12,919) 517 Other comprehensive income (loss): Items that will never be reclassified to the Statement of operations: Remeasurement of defined benefit plan, net of tax 18 Total Other comprehensive income (loss) items that are or may be reclassified to the statement of operations Currency translation differences Net changes in fair value of marketable Securities available-for-sale, net of tax Net changes in fair value of marketable securities available-for-sale, net of tax classified to the statement of operations Total Total other comprehensive income (loss), net of tax 21 21 46 (696) - (650) (629) (35) (35) (55) 242 - 187 152 (7) (7) - - 83 83 76 Total comprehensive income (loss) (3,904) (12,767) 593 The accompanying notes are an integral part of these financial statements. 6 ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF CHANGES IN CAPITAL DEFICIENCY Ordinary share capital Additional paid-in capital Capital reserve in respect of transactions with shareholders Capital reserve in respect of currency translation adjustments U.S. dollars in thousands Capital reserve in respect of securities available-for- sale Accumulated deficit Total For the year ended December 31, 2014: Balance as of January 1, 2014 385 68,238 935 (55) 242 (84,388) (14,643) Total comprehensive loss for the year: Loss for the year Other comprehensive income for the year, net of tax Total comprehensive loss for the year Transactions recognized directly in equity: Exercise of options Private issuance of ordinary shares Share-based payment Capital reserve from transactions with shareholders - - - 5 77 - - - - - 300 11,704 - - Balance as of December 31, 2014 467 80,242 The accompanying notes are an integral part of these financial statements. - - - - 216 1,151 7 - 46 46 - - - - - ( 3,275 ) ( 3,275 ) ( 696 ) ( 696 ) 21 ( 3,254 ) ( 629 ) ( 3,904 ) - - - - - - 1,475 305 11,781 1,475 - 216 (9) ( 454 ) ( 86,167 ) ( 4,770 ) ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF CHANGES IN CAPITAL DEFICIENCY Ordinary share capital Additional paid-in capital Capital reserve in respect of transactions with shareholders Capital reserve in respect of currency translation adjustments U.S. dollars in thousands Capital reserve in respect of securities available-for- sale Accumulated deficit Total For the year ended December 31, 2013: Balance as of January 1, 2013 338 63,704 650 Total comprehensive loss for the year: Loss for the year Other comprehensive income for the year, net of tax Total comprehensive loss for the year Transactions recognized directly in equity: Exercise of options Private issuance of ordinary shares Share-based payment Capital reserve from transactions with shareholders Early repayment of loan from shareholders - - - 15 32 - - - - - - 386 4,148 - - - Balance as of December 31, 2013 385 68,238 The accompanying notes are an integral part of these financial statements. - - - - 285 - 935 8 - - )55( )55( - - - - - - (71,112) (6,420) - 242 242 - - - - - ( 12,919 ) ( 12,919 ) )35( 152 ( 12,954 ) ( 12,767 ) - - 143 - ( 465 ) 401 4,180 143 285 ( 465 ) (55) 242 ( 84,388 ) ( 14,643 ) Ordinary share capital Additional paid-in capital Capital reserve in respect of transactions with shareholders Capital reserve in respect of currency translation adjustments U.S. dollars in thousands Capital reserve in respect of securities available-for- sale Accumulated deficit Total For the year ended December 31, 2012: Balance as of January 1, 2012 332 63,563 331 Total comprehensive loss for the year: Income for the year Other comprehensive income for the year, net of tax Total comprehensive loss for the year Transactions recognized directly in equity: Exercise of options Share-based payment Capital reserve from transactions with shareholders Notes converted into shares - - - 6 - - - - - - 135 - - 6 Balance as of December 31, 2012 338 63,704 The accompanying notes are an integral part of these financial statements. - - - - 319 - 650 9 - - - - - - - - - )83( (72,030) (7,887) - 83 83 - - - - - 517 (7) 510 - 408 - - 517 76 593 141 408 319 6 ( 71,112 ) ( 6,420 ) ITAMAR MEDICAL LTD. CONSOLIDATED STATEMENTS OF CASH FLOWS Cash flows from operating activities: Net income (loss) Adjustments for: Depreciation and amortization Gain from sale or disposition of property, plant and equipment Change in provision for doubtful and bad debt Net financial expenses Gain (loss) from change in fair value of derivatives instruments, net Changes in capital reserve from transactions with shareholders Share-based payment Changes in: Trade receivables Other receivables Inventories Trade payables Other long-term payable Employee benefits Provisions Other accounts payable and accrued expenses Income tax expenses (tax credit) Taxes (paid) received Interest received Interest paid Net cash used in operating activities Cash flows from investing activities Purchase of available-for-sale securities Proceeds from writing options Proceeds from sale of available-for-sale securities Investment in deposits and pledged deposits Proceeds from deposits and pledged deposits Purchase of fixed assets and intangible assets Proceeds from settlement of derivatives Development costs recognized as intangible assets Net cash provided by (used in) investing activities Cash flows from financing activities Proceeds from issuance of share capital Proceeds from issuance of warrants Repayment of notes Loans received from shareholders Proceeds from issuance of convertible notes Repayment of shareholders’ loan Proceeds from exercise of stock options Net cash provided by (used in) financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Effect of exchange rate changes fluctuations on cash and cash-equivalents Cash and cash equivalent at end of year 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 (3,275) (12,919) 517 324 - 46 2,598 (3,743) 33 1,475 ( 1,175 ) 25 ) ( 445 432 ) ( 328 (16) 79 250 204 (80) 40 (2,247) (5,443) (2,897) ) ( 134 - - 57 (202) - - (3,176) ( 5,156 12,031 - ) - - - 305 6,930 ( 1,689 ) 11,950 400 13 117 3,763 3,350 11 143 609 (297) 526 (155) 723 (2) (14) 645 (20) (24) 104 (1,735) (4,762) (6,602) 10 - (2,504) 2,790 (104) 190 - (6,220) 4,282 9,143 (4,856) - 10,784 (3,620) 401 16,032 5,050 6,262 330 - 115 2,157 (2,992) - 408 (83) (52) (484) 52 (45) (56) (176) (28) (105) (96) 56 (1,240) (1,722) - - 2,294 (620) 710 (102) - (28) 2,254 - - (6,507) 1,757 - - 141 (4,609) (4,077) 10,197 ( 844 ) 638 142 9,417 11,950 6,262 The accompanying notes are an integral part of these financial statements. 10 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - GENERAL a. Reporting entity Itamar Medical Ltd. (the “Company”) is domiciled and was incorporated in Israel on January 15, 1997. The Company’s registered office is at 9 Halamish Street, Caesarea, Israel. The Company’s securities are registered for trade on the Tel Aviv Stock Exchange Ltd. (“TASE”). The Company, together with its subsidiaries, is engaged in research and development, marketing, selling and leasing of non-invasive medical devices and associated support services for the diagnosis and assessment of various medical conditions, including cardiology desease and sleep breathing disorders. The unique proprietary technology developed by the Company is capable of non-invasively recording, measuring and analyzing the Peripheral Arterial Tonometry; PATTM (“PAT”) signal. The PAT signal accurately measures the changes in the patient’s peripheral arterial pulse volumes as well as various parameters of arterial activity. The peripheral arterial volume is measured, using the PAT technology, by way of a thimble-shaped probe, which fits over the patient’s finger and transmits information to a computer-based processing system, which monitors the PAT® signal and diagnoses the patient’s medical condition. The Company develops and markets two medical devices that are based on our PAT technology: WatchPATTM (“WatchPATca and EndoPATTM (“EndoPAT”). The WatchPAT device diagnoses sleep breathing disorders, which are proven to be a major contributor to heart disease, and if treated, improve success rates of cardiac procedures. The EndoPAT device diagnoses endothelial dysfunction, which is a proven predictive marker of cardiovascular disease. The Company has two wholly-owned subsidiaries, a U.S. subsidiary and a Japanese subsidiary. The U.S. subsidiary, Itamar Medical Inc., provides distribution, marketing and sales promotion services for Company products in North America. The Japanese subsidiary, Itamar Medical Japan Co. Ltd., was incorporated in Japan in 2013 to provide distribution, marketing and sales promotion services for Company products in Japan. The balance of the Company’s investment in the U.S. subsidiary and in the Japanese subsidiary as of December 31, 2014 amounted to debit balances of $148 thousand and debit balance of$108 thousand, respectively. The Group’s consolidated financial statements include the accounts of the Company and its subsidiaries. b. The Company’s operational status As of December 31, 2014, the Company had a capital deficiency of $4,770 thousand and negative cash flows from operating activities of $5,443for the year ended December 31, 2014. The Company’s management and Board of Directors are of the opinion that based on the continuation of the positive trend in the Company’s results of operations, the irrecoverable undertaking from January 2015 to provide a credit facility from three of its shareholders (as described below) and the ability to adjust the Company’s budget to changes in its business, the Company has enough funds to continue its business operation in the foreseeable future. During the years ended December 31, 2013 and 2014, the Company was able to raise capital by way of issuance of convertible notes and shares to the public and to institutional investors in Israeli in the total amount of approximately $37 million. In addition, on January 2015, the Company received an irrecoverable undertaking to provide a credit facility from three of its shareholders in the total amount of approximately $2.3 million (see Note 28). 11 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - GENERAL In the first quarter of 2017, the Company will have to repay principal and interest of convertible notes which were issued in a public offering and a private placement. The repayment is estimated by the Company to be approximately $10. 6 million, as well as principal and interest in the total amount of $1.1 million relating to a loan received in February 2014 from four major shareholders. The Company reviews regularly the sources of funds available to finance its operations and servicing its debt, including options to raise capital. In addition, management reviews regularly its operating results, compared to its budget and is prepared to respond to a shortage in funds by reducing its operating expenses in case it does not meet its goals. c. Definitions In these financial statements: The Company Subsidiary/investee The Group Related parties - - - - Itamar Medical Ltd. Companies whose financial statements are consolidated, directly or indirectly, with the financial statements of the Company. Itamar Medical Ltd. and its subsidiaries Within its meaning in IAS 24 (2009), “Related Party Disclosures”. Interested parties Within their meaning in paragraph (1) of the definition of - “interested party” in section 1 of the Securities Law-1968. NIS. - New Israeli shekel Israeli CPI - The consumer price index as published by the Central Bureau of Statistics in Israel NOTE 2 - BASIS OF PREPARATION a. International accounting standards The consolidated financial statements of the Group have been prepared in accordance with International Financial Reporting Standards (”IFRS”), which include standards and interpretations as issued by the International Accounting Standards Board (“IASB”) and include additional disclosures required by the Israeli Securities (Preparation of Annual Financial Statements) Regulations, 2010. The consolidated financial statements were authorized for issuance by the Company’s Board of Directors on March 23, 2015. b. Functional currency and presentation currency These consolidated financial statements are presented in U.S. dollar (“dollar”), which is the Company’s functional currency, and have been rounded to the nearest thousand unless otherwise indicated. 12 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - BASIS OF PREPARATION (CONTINUED) The dollar is the currency that represents the principal economic environment in which the Company operates. c. Basis of measurement These consolidated financial statements have been prepared on the historical cost basis, except for the assets and liabilities listed below: • Derivative and other financial instruments measured at fair value through profit or loss. • Financial instruments classified as available-for-sale. • Provisions. • Assets and liabilities for of employee benefits; • Share-based payments for which the grant date have not yet been determined; • Deferred tax assets and liabilities. For further information regarding the measurement of these assets and liabilities, see Note 3. The value of non-monetary assets and equity items that were measured on the historical cost basis was adjusted to changes in the Israeli CPI until December 31, 2003, since until that date the Israeli economy was considered hyperinflationary. d. Operating cycle The Group’s operating cycle is one year. As a result, current assets and current liabilities include also items the realization of which is intended and anticipated to take place within the operating cycle of these operations of up to three years. e. Use of judgments and estimates The preparation of financial statements in conformity with IFRS requires management to make judgments, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets, liabilities, income and expenses. Actual results may differ from these estimates. The preparation of accounting estimates used in the preparation of the Group’s financial statements requires management of the Company to make assumptions regarding circumstances and events that involve considerable uncertainty. Management of the Company prepares the estimates on the basis of past experience, various facts, external circumstances, and reasonable assumptions according to the pertinent circumstances of each estimate. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognized in the period in which the estimates are revised and in any future periods affected. Information about assumptions made by the Group with respect to the future, and other reasons for uncertainty with respect to estimates that have a significant risk of resulting in material adjustment of carrying amounts of assets and liabilities during the next financial year are included in the following notes: 13 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - BASIS OF PREPARATION (CONTINUED) • Note 3j - Provision for warranties – the Group estimates the amounts it will be required to pay with respect to basic warranty for sale of its products. • Note 3k - Revenue recognition – for determination of separate sale prices for components, in conjunction with revenue recognition for multi-component transactions, see Note 3k. • Note 25 – fair value of non-trading derivatives – as to the computation of the fair value of the warrants embedded in convertible notes, see Note 4b. • Note 26 a - Liability to pay royalties to the Office of the Chief Scientist of the Israeli Ministry of Economy (the “OCS”) – in estimating its liability to the OCS, the Group forecasts the amount payable based on future sales. f. Capital management - objectives, procedures and processes It is management policy to maintain capital base in order to preserve the ability of the Company to further invest resources in development and expansion of the Company’s marketing and distribution channels, in order to develop and market additional applications of the PAT® signal and the PAT® technology, to meet its obligations - including to holders of its convertible notes - and to provide returns to its shareholders and benefits to other stakeholders in the Company, such as lenders and the Company’s employees. g. Change in estimates On November 25, 2014, the Israeli Securities Authority published Accounting Staff Position Paper No. 21-1 according to which a financial market for high quality corporate bonds exists in Israel (the “Position Paper”), for the purpose of determining the discount rate of an NIS-denominated defined benefit obligation and other long-term benefits in accordance with IAS 19, “Employee Benefits”. According to the Position Paper, the transition from using the yield rate of government bonds to using the yield rate of high quality corporate bonds should be applied prospectively. The effect of the change in the discount rate as aforesaid is a decrease in the defined benefit obligation in the amount of $62 thousand. h. Changes in accounting policies As from January 1, 2014, the Group applies the new standards and amendments described below: (1) Amendment to IAS 32, “Financial Instruments: Presentation” The amendment clarifies that an entity currently has a legally enforceable right to offset the amounts recognized if such right is not contingent on a future event, and it is enforceable in the normal course of business and, in the event of default, insolvency or bankruptcy of the entity and of all counter-parties. The amendment was applied on a retrospective basis. Application of the amendment did not have an effect on the consolidated financial statements. 14 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 2 - BASIS OF PREPARATION (CONTINUED) (2) Amendment to IAS 36, “Impairment of Assets”: Recoverable Amount Disclosures for Non-Financial Assets The amendment includes new disclosure requirements for situations in which impairment is recognized and the recoverable amount is based on fair value less costs of disposal. The amendment also eliminated the requirement to disclose the recoverable amount of significant cash-generating units when there has been no impairment or reversal of impairment. The amendment was applied on a retrospective basis. Application of the amendment did not have an effect on the consolidated financial statements. (3) Amendment to IFRS 2, “Share-based Payment”: Definition of “Vesting Condition” IFRS 2 was amended in order to clarify the term “vesting condition” by defining two separate terms “performance condition” and “service condition”. The amendment also clarifies how to distinguish between a market-based condition and a non-market performance condition and the principles for distinguishing between a performance condition and a condition that is not a vesting condition. The amendment was applied on a prospective basis for plans having a grant date of July 1, 2014 or later. Application of the amendment did not have an effect on the consolidated financial statements. NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES The following accounting policies have been consistently applied for all years presented in these consolidated financial statements by the Group’s entities. a. Basis of consolidation: (1) Subsidiaries Subsidiaries are entities controlled by the Company. The financial statements of the subsidiaries, which are wholly owned, are included in the consolidated financial statements from the date of their incorporation. (2) Transactions eliminated on consolidation Intercompany transactions, balances, and unrealized gains on transactions between Group companies are eliminated in consolidation. b. Cash equivalents: Cash equivalents include short-term highly liquid investments and $3 million of deposits, which are not restricted and their original maturities is three months or less. 15 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) c. Foreign currency: (1) Foreign currency transactions and balances Transactions in currency which is different from the functional currency (“foreign currency”) are translated to the respective functional currency of the Group at exchange rates as of the transaction dates. Monetary assets and liabilities denominated in foreign currencies are translated to the functional currency at the exchange rate at reporting date. The foreign currency gain or loss on monetary items is the difference between the amortized cost in the functional currency at the beginning of the year, adjusted for effective interest and payments during the year, and the amortized cost in foreign currency, translated at the exchange rate at the end of the year. Non-monetary assets and liabilities denominated in foreign currency that are measured in terms of historical cost, are translated using the exchange rate at the date of the transaction. Foreign currency differences arising from translation into the functional currency are recognized in the statement of operations. (2) Foreign operations The assets and liabilities of foreign operations are translated into dollars at exchange rates at the reporting date. Income and expenses of foreign operations are translated to dollars at exchange rates at the dates of the transactions. Foreign currency differences are recognized in “Other Comprehensive Income” and are presented in equity under Reserve from Translation of Foreign Operations (“Translation Reserve”). d. Financial instruments: (1) Non-derivative financial instruments Initial recognition of financial assets The Group initially recognizes loans, receivables and deposits on the date that they are originated. All other financial assets acquired in a regular way purchase, including assets designated at fair value through profit and loss, are initially recognized on the trade date, at which the Group becomes party to the contractual terms of the instrument, i.e. the date on which the Group committed to buy or sell the asset. Non-derivative financial assets include trade receivables and other receivable, including cash and cash equivalents. 16 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Derecognition of financial instruments Financial assets are de-recognized when the contractual rights of the Group to the cash flows from the asset expire, or the Group transfers the rights to receive the contractual cash flows from the financial asset in a transaction in which substantially all the risks and rewards associated with ownership of the financial asset are transferred. Any interest in transferred financial assets that is created or retained by the group is recognized as a separate assets or liability. Sale of financial assets made in the regular way is recognized on the trade date, i.e. on the date the Group undertook to sell the asset. As to offset of financial assets and financial liabilities, see (2) below. Classification of financial assets into categories and the accounting treatment of each category The Group classifies its financial assets as follows: (a) Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. These financial assets are initially recognized at fair value with any directly attributable transaction costs. After initial recognition, loans and receivables are measured at amortized cost using the effective interest method, net of any impairment loss. Loans and receivable include trade and other receivables, and cash and cash equivalents. Cash and cash and cash equivalents include cash balances available for immediate use and on-demand deposits. Cash equivalents include short-term, highly liquid investments (with original maturities of three months or less) that are readily convertible into known amounts of cash and are exposed to insignificant risks of change in value. (b) Available-for-sale Financial assets Available-for-sale financial assets are non-derivative financial assets that are designated as available-for-sale or that are not classified under any of the previous categories. Group investments in certain debt instruments are classified as available-for-sale financial assets. Upon initial recognition, and in subsequent periods, these investments are measured at fair value and changes, other than impairment loss, foreign currency differences and the accrual of effective interest on debt instruments classified as available-for-sale, are recognized directly in “Other Comprehensive Income,” and are presented within equity in a reserve for financial assets classified as available-for-sale. When the investment is de- recognized, the gain or loss accumulated in the reserve for available-for-sale financial assets is transferred to the statement of operations. 17 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (2) Non-derivative financial liabilities Non-derivative financial liabilities include trade and other payables, loans from shareholders and convertible notes. Initial recognition of financial liabilities The Group initially recognizes debt securities issued on the date that they are originated. All other financial liabilities are initially recognized on the trade date, on which the Group becomes party to the contractual terms of the instrument. Financial liabilities are initially recognized at fair value plus all attributable transaction costs. Subsequent to initial recognition, financial liabilities are measured at amortized cost using the effective interest method. Derecognition of financial liabilities Financial liabilities are de-recognized upon expiration of the Group’s liability, as set forth in the agreement, or when it is discharged or cancelled. Offset of financial instruments Financial assets and liabilities are offset and presented net in the statement of financial position, only when the Group has an existing legal right to offset the amounts and intends either to settle on a net basis or to realize the asset and settle the liability simultaneously. (3) Derivative financial instruments The Group holds both derivative financial instruments to economically hedge its currency risk exposures and derivatives that do not serve hedging purposes, including separable embedded derivatives. Measurement of derivative financial instruments Derivatives are initially recognized at fair value. Attributable transaction costs are recognized in the statement of operations when incurred. Subsequent to initial recognition, derivatives are measured at fair value, and changes therein are accounted for as described below. (a) Economic hedges Hedge accounting is not applied to derivative instruments that economically hedge financial liabilities denominated in foreign currency. Changes in the fair value of such derivatives are recognized in the statement of operations under financial income or expenses. (b) Derivatives not used for hedging Changes in the fair value of derivatives not used for hedging are recognized immediately in the statement of operations as financial income or expenses. The Group also applies the aforementioned accounting treatment to changes in fair value of the conversion component of Israeli CPI-linked convertible notes and option that do not have a fixed exercise price. 18 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (c) Separated embedded derivatives and which are not used for hedging Embedded derivatives are separated from the host contract and accounted for separately if: (i) the economic characteristics and risks of the host contract and the embedded derivative are not closely related; (ii) a separate instrument with the same terms as the embedded derivative would meet the definition of a derivative; and (iii) the combined instrument is not measured at fair value through profit or loss. Changes in the fair value of separable embedded derivatives are recognized immediately in the statement of operations as financial income or expenses. (4) Hybrid financial instruments Liabilities, which are convertible into shares, denominated in foreign currency or linked to the Israeli CPI or to foreign currency, constitute a hybrid instrument presented in full as a financial liability. For measurement, the instrument is separated into two components: a liability component with no conversion feature, which is measured at amortized cost according to the effective interest method, and a conversion option, which constitutes an embedded derivative, measured at fair value upon each reporting date. (5) Assets and liabilities linked to the Israeli CPI which are not measured at fair value Financial assets and liabilities linked to the Israeli CPI, which are not measured at fair value, are remeasured in each period based on the actual change in the Israeli CPI. (6) Share capital Ordinary shares are classified as equity. Incremental costs directly attributable to the issuance of ordinary shares are recognized as a deduction from equity. Incremental costs directly attributable to an expected issuance of an instrument that will be classified as an equity instrument are recognized as an asset in deferred expenses in the statement of financial position. The costs are deducted from the equity upon the initial recognition of the equity instruments, or are amortized as financial expenses in the statement of income when the issuance is no longer expected to take place. (7) Issuance of parcel of securities The consideration received from the issuance of a parcel of securities is attributed initially to financial liabilities measured each period at fair value, and then to financial liabilities measured only upon initial recognition at fair value. The remaining amount is the value of the equity component. Direct issuance costs are attributed to the specific securities in respect of which they were incurred, whereas joint issuance costs are attributed to the securities on a proportionate basis according to the allocation of the consideration from the issuance of the parcel, as described above. 19 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) e. Property, plant and equipment Recognition and measurement Property, plant and equipment items are measured at cost less accumulated depreciation and any accumulated impairment losses. Cost includes expenditure that is directly attributable to the acquisition of the asset. Purchased software that is integral to the functionality of the related equipment is capitalized as part of that equipment. Any gain or loss on disposal of property, plant and equipment is determined by comparing the net proceeds from asset disposition to its carrying amount, and is recognized net in the statement of operations under general and administrative expenses. Subsequent expenditure Subsequent expenditure is capitalized only if it is probable that the future economic benefits associated with the expenditure will flow to the Group. Depreciation Depreciation is a systematic allocation of the depreciable amount of an asset over its useful life. The depreciable amount is the cost of the asset, or other amount substituted for cost, less its residual value. An asset is depreciated from the date it is ready for use, i.e. the date it reaches the location and condition required for it to operate in the manner intended by management. Depreciation is recognized in the statement of operations, using the straight-line method over the estimated useful life of each part of the property, plant and equipment item since this most closely reflects the expected consumption pattern of future economic benefits embodied in the asset. Annual rates of depreciation are as follows: Office furniture and equipment Research and development equipment and computers Computers % 7-15 7-33 33 Leasehold improvements are amortized over the shorter of the lease term and their useful lives. Depreciation methods, useful lives and residual values are reviewed at the end of each reporting year and adjusted if appropriate. 20 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) f. Intangible assets Research and development Expenditure on research activities, undertaken with the prospect of gaining new scientific or technical knowledge and understanding, is recognized in the statement of operations when incurred. Development activities are related to a plan to produce new products or processes, or to significantly improve existing products or processes. Development expenditure is capitalized only if: (i) the expenditure can be measured reliably; (ii) the product or process is technically and commercially feasible; and (iii) future economic benefits are probable, and the Group intends to and has sufficient resources to complete development and to use or sell the asset. The expenditure capitalized in respect of development activities includes the cost of materials, direct labor and overhead costs that are directly attributable to preparing the asset for its intended use. Other development expenditure is recognized in the statement of operations as incurred. In subsequent periods, capitalized development expenditure is measured at cost less accumulated amortization and any accumulated impairment losses. Other intangible assets Other intangible assets that are acquired by the Group and have finite useful lives are measured at cost less accumulated amortization and accumulated impairment losses. Subsequent expenditure Subsequent expenditure is capitalized only when it increases future economic benefit embodied in the specific asset to which it relates. All other expenditure, including expenditure on internally generated goodwill and brands, is recognized in the statement of operations as incurred. Amortization Amortization is a systematic allocation of the amortizable amount of an intangible asset over its useful life. The amortizable amount is the cost of the asset less its residual value. Amortization is recognized in the statement of operations, using the straight-line method, over the estimated useful lives of the intangible assets from the date they are available for use, since this method most closely reflect the expected pattern of consumption of the future economic benefits embodied in each asset. The estimated useful lives are as follows: Computer software Capitalized development cost Marketing rights for medical product in Japan 3 years 3 years 7 years* 21 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) * In the fourth quarter of 2013, the estimated useful life was revised from 5 to 7 years. Amortization methods, useful lives and residual s are reviewed at the end of each reporting year and adjusted if appropriate. g. Inventories Inventories are measured at the lower of cost and net realizable value. The cost of inventories is based on the moving average method, including expenditure incurred in acquiring the inventories and the costs incurred in bringing it to its existing location and condition. In the case of inventories in process and inventories of finished goods, cost includes an appropriate share of production overhead based on normal operating capacity. Net realizable value is the estimated selling price in the ordinary course of business less the estimated costs to complete and sell the inventories. h. Impairment Non-derivative financial assets Impairment of a financial asset not carried at fair value through profit or loss is reviewed when there is objective evidence that a loss event has occurred after initial recognition of the asset, and this loss event has negatively impacted the estimated future cash flows of the asset that can be estimated reliably. Objective evidence of impairment of financial assets may include a breach of contract by the debtor, restructuring of the amount due to the Group based on terms and conditions which the Group would not otherwise consider, existence of indications that a debtor or debt issuer would go bankrupt, adverse changes in the payment status of the borrower, changes in the economic environment which indicate insolvency of debt issuers, or the disappearance of an active market for a security, observable data indicating that there is a measurable decrease in expected cash flows from a group of financial assets. Evidence of impairment of available-for-sale financial assets When testing for impairment of available-for-sale financial assets that are equity instruments, the Group also reviews the difference between the fair value of the asset and its original cost while taking into consideration the expected volatility of the instrument’s price, the length of time the fair value of the asset is lower than its original cost, changes in the technological, economic or legal environment, or in the market environment in which the issuer of the instrument operates. Furthermore, a significant or prolonged decline in its fair value below its cost is objective evidence of impairment. According to the ‘s policy, a decline of more than 10% below the original cost of the instrument, or a decline to below the original cost for more than nine months, is considered significant or prolonged, respectively. Evidence of impairment of debt instruments The Group considers evidence of impairment of trade receivables and other accounts receivable at the individual asset level. Balances of trade receivables and other accounts receivable are specifically reviewed for impairment. 22 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Accounting for impairment loss of financial assets measured at amortized cost An impairment loss in respect of a financial asset measured at amortized cost is calculated as the difference between its carrying amount, and the present value of the estimated future cash flows discounted at the original effective interest rate. Loss is charged to the statement of operations and presented as provision for loss against the balance of the financial asset measured at amortized cost. Interest income with respect to assets whose value is impaired, is recognized using the interest rate used to discount future cash flows for measurement of impairment loss. Accounting for impairment losses of available-for-sale financial assets Impairment losses on available-for-sale financial assets are recognized by transferring the cumulative loss that has been recognized in a capital reserve to profit or loss. The cumulative loss that is classified from other comprehensive income to profit or loss is the difference between the acquisition cost, net of any principal repayment and amortization, and the current fair value, less any impairment loss previously recognized in profit or loss. Changes in impairment provisions attributable to application of the effective interest method are reflected in the item of financial income. Reversal of impairment loss An impairment loss is reversed if the reversal can be related objectively to an event occurring after the impairment loss was recognized (such as repayment by the debtor). For financial assets measured at amortized cost and available-for-sale financial assets that are debt securities, the reversal is recognized in profit or loss. For available-for-sale financial assets that are equity securities, the reversal is recognized directly in other comprehensive income. Non- financial assets Timing of impairment testing The carrying amounts of the Group’s non-financial assets, other than inventories, are reviewed at each reporting date to determine whether there is any indication of impairment. If any such indication exists, then the asset’s recoverable amount is estimated. Determination of cash-generating units For the purpose of impairment testing, assets that cannot be tested individually are grouped together into the smallest group of assets that generates cash flows from continuing use that are largely independent of the cash inflows of other assets or groups of assets (“cash-generating unit”). Measurement of recoverable amount The recoverable amount of an asset or cash-generating unit is the greater of its value in use and its fair value less costs of disposal. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects the assessments of market participants regarding the time value of money and the risks specific to the asset or cash-generating unit, for which the estimated future cash flows from the asset or cash-generating unit were not adjusted. 23 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Recognition of impairment loss An impairment loss is recognized if the carrying amount of an asset or cash-generating unit exceeds its estimated recoverable amount. Impairment loss is recognized in the statement of operations. i. Employee benefits: (1) Post-employment benefits The group has several post-employment benefit plans. The plans are usually financed by deposits with insurance companies or with funds managed by others and are classified as defined contribution plans or as defined benefit plans. (a) Defined contribution plan A defined contribution plan is a post-employment benefit plan under which the Group pays fixed contributions into a separate entity and has no legal or constructive obligation to pay further amounts. The Group’s obligations for contributions to a defined contribution plan are charged to the statement of operations in periods in which the employees rendered their services. Commitments to make contributions to a defined contribution plan which are payable 12 months or longer after the end of the period in which the employees rendered their services are recognized at their present value. (b) Defined benefit plan A defined benefit plan is a post-employment benefit plan other than a defined contribution plan. The Group’s net obligation in respect of post-employment defined benefit plans is calculated separately for each plan by estimating the amount of future benefit that employees have earned in return for their service in the current and prior periods. This benefit is presented at its present value, net of the fair value of plan assets. The Group determines the net interest expense on the net defined benefit liability for the period by applying the discount rate used to measure the defined benefit obligation at the beginning of the annual period to the then-net defined benefit liability. The discount rate is the yield as of the reporting date on high quality NIS-denominated corporate bonds that have maturity dates approximating the terms of the Group’s obligations. The calculation is performed annually by a qualified actuary using the projected unit credit method. When calculations indicate that a net asset has been created for the Group, an asset is recognized up to the net present value of economic benefits available as refunds from the plan or by way of reduction of future contributions to the plan. An economic benefit in the form of refunds from the plan or by way of reduction of future contributions would be deemed available to the Group when it may be exercised during the plan term or after disposition of the obligation. 24 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Remeasurements of the net defined benefit liability (asset) comprise actuarial gains and losses, the return on plan assets (excluding interest) and the effect of the asset ceiling (if any, excluding interest). Remeasurements are recognized immediately directly in retained earnings through other comprehensive income. Interest costs on a defined benefit obligation, interest income on plan assets and interest from the effect of the asset ceiling that were recognized in the statement of operations are presented in financial income and expenses, respectively. When the benefits of a plan are improved or curtailed, the portion of the increased benefit relating to past service by employees or the gain or loss on curtailment are recognized immediately in the statement of operations when the plan improvement or curtailment occurs. The Group recognizes gains and losses on the settlement of a defined benefit plan when the settlement occurs. Such gains or losses comprise the difference between the portion of the present value of the defined benefit obligation that is settled on the date of settlement, and the settlement price, including transferred plan assets. The Group has insurance policies that were issued before 2004 according to which the profit in real terms accumulated on the severance pay component will be paid to the employees upon their retirement. In respect of such policies, plan assets include both the balance of the severance pay component and the balance of the profit in real terms (if any) on the severance pay deposits that accumulated until the reporting date, and are presented at fair value. These plan assets are for a defined benefit plan that includes two liability components: a defined benefit plan component for severance pay, which is calculated on an actuarial basis as aforementioned, and another component that is the obligation to pay the accumulated profit in real terms (if any) upon the retirement of the employee. This component is measured at the balance of the actual profit in real terms that accumulated at the reporting date. The Group offsets an asset relating to one benefit plan from the liability relating to another benefit plan only when there is a legally enforceable right to use the surplus of one plan to settle the obligation in respect of other plans, and there is intent to settle the obligation on a net basis or to simultaneously realize the surplus of one plan and settle the obligation in the other plan. (2) Termination benefits Termination benefits are recognized as an expense when the Group is committed demonstrably, without realistic possibility of withdrawal, to a formal detailed plan to terminate employment before the normal retirement date, or to provide termination benefits as a result of an offer made to encourage voluntary redundancy. Termination benefits for voluntary redundancies are recognized as an expense if the Group has made an offer of voluntary redundancy, it is probable that the offer will be accepted, and the number of acceptances can be estimated reliably. If the benefits are payable more than 12 months after the end of the reported period, they are discounted to their present value. The discount rate is the yield at the reporting date on high quality NIS-denominated corporate bonds that have maturity dates approximating the terms of the Group’s obligations. 25 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (3) Other long-term employee benefits The Group’s net obligation in respect of long-term employee benefits other than post- employment plans is the amount of future benefit that employees have earned in return for their service in the current and prior periods. The amount of such benefit is discounted to its present value and the fair value of assets pertaining to this obligation is deducted therefrom. The discount rate is the yield at the reporting date on high quality NIS-denominated corporate bonds that have maturity dates approximating the terms of the Group’s obligations. The calculation is performed using the projected unit credit method. Any actuarial gains or losses are recognized in statement of operations in the period in which they arise. (4) Short-term employee benefits Obligations with respect to short-term benefits to employees are measured on non-discounted basis, and expensed when the referring service is provided or, in case of non-cumulative absence (such as maternity leave), upon the actual absence. A liability is recognized, for the amount expected to be paid under short-term cash bonus or profit-sharing plans if the Group has a present legal or constructive obligation to pay this amount as a result of past service provided by the employee and the obligation can be estimated reliably. The employee benefits are classified, for measurement purposes, as short-term benefits or as other long-term benefits depending on when the Group expects the benefits to be fully settled. j. Share-based payment transactions The grant-date fair value of share-based payment awards granted to employees and directors is recognized as an expense, with a corresponding increase in equity, over the period that the employees become unconditionally entitled to the awards. The amount recognized as an expense in respect of share-based payment awards that are conditional upon meeting service and non-market performance conditions, is adjusted to reflect the number of awards that are expected to vest. For share-based payment awards with non-vesting conditions or with market performance vesting conditions, the grant date fair value of the share-based payment awards is measured to reflect such conditions, and therefore the Group recognizes an expense in respect of the awards whether or not the conditions have been met. Consulting expenses relating to issuance of equity instruments paid by grant of stock options to consultants are recognized over the consultants’ period of service against an increase in equity. The Group measures the services rendered and the corresponding increase in equity, indirectly, with regard to the fair value of the equity instruments granted, which is measured when the consultant renders the service, since it is not possible to estimate the fair value of services rendered. In cases where the employees started working before the grant date, the fair value remeasured at each reporting date until the grant date. The Group elected to record the increase in equity against salary expense directly to retained earnings. 26 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) k. Provisions A provision is recognized if, as a result of a past event, the Group has a present legal or constructive obligation that can be estimated reliably, and it is probable that an outflow of economic benefits will be required to settle the obligation. 1) Provision for warranties A provision for warranties is recognized when the underlying products or services are sold, based on historical warranty data and a weighing of possible outcomes against their associated probabilities. 2) Provision for returns The Group recognizes a provision for returns, based on past experience of returns by customers. 3) Provision for legal claims A provision for claims is recognized if, as a result of a past event, the Group has a present legal or constructive obligation and it is more likely than not that an outflow of economic benefits will be required to settle the obligation and the amount of obligation can be reasonably estimated. When the value of time is material, the provision is measured at its present value. l. Revenue recognition The Group recognizes revenue in accordance with IAS 18, “Revenue Recognition,” including provisions related to recognition of revenue from multiple-element transactions. (1) Sale and rent of products Revenue from the sale of products in the ordinary course of business is measured at the fair value of the consideration received or receivable, net of returns and discounts. In cases where the credit term exceeds the customary credit in the industry, the sale is recognized at its present value using the risk rate of the customer, such that the difference between the present value of the transaction and the nominal amount of the future consideration is recognized in the statement of operations as interest income over the term of the excess credit period. Revenue is recognized, net of provision for returns, when persuasive evidence exists (usually in the form of an executed sales agreement) that the significant risks and rewards of ownership have been transferred to the buyer, recovery of the consideration is probable, the associated costs and possible return of goods can be estimated reliably, there is no continuing management involvement with the goods, and the amount of revenue can be measured reliably. If it is probable that discounts will be granted and the amount can be measured reliably, then the discount is recognized as a reduction of revenue as the sales are recognized. 27 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Tax collected from customers and remitted to governmental authorities are accounted for on a net basis and, therefore, are excluded from revenues in the consolidated statements of operation. When the Group contracts with customers the sale of products along with commitment of training and/or installation services, the Group treats such transactions as multi-component transactions, where the training / installation components constitute separable components. In such cases, the Group defers revenues attributed to components yet to be delivered, based on the fair value of the undelivered item. The revenue allocated to the delivered item is based on the difference between the total arrangement consideration and the fair value of the undelivered item. The Group recognizes revenue from leasing its products over the lease term, in conformity with the agreement with the customer; revenue from commitment of training and/or installation services is recognized when the service is rendered. The transfer of risks and rewards typically occurs when the products are loaded on the shipping company’s transport. (2) Multi-element sale agreements Revenues from sales agreements consisting of multiple elements, such as devices, consumables and support agreements, are separated into different accounting units and are separately recognized for each accounting unit. The allocation of consideration from a revenue arrangement to its separate units of account is based on the relative fair values of each unit (except for commitment of training and/or installation services, as described in (1) above). If the fair value of the delivered item is not reliably measurable, then revenue is allocated based on the difference between the total arrangement consideration and the fair value of the undelivered item. A component constitutes a separate accounting unit if and only if it has value, separately, for the customer and there if reliable objective evidence as to the fair value of components yet to be delivered. Components not separated into an accounting unit due to non-compliance with the aforementioned conditions, are grouped together in a single accounting unit. The revenue from each such accounting unit is recognized upon fulfillment of the conditions for recognition of revenue from the components included therein, according to their type. m. Government grants Government grants are recognized initially at fair value when there is reasonable assurance that they will be received and that the Group would comply with the conditions associated with the grant. Unconditional government grants are recognized when the Group is entitled to receive them. Grants that compensate the Group for expenses incurred are presented as a deduction from the corresponding expense in the periods in which the expenses are recognized. Grants from the OCS in respect of research and development projects are accounted for as forgivable loans according to IAS 20, “Accounting for Government Grants and Disclosure of Government Assistance.” Grants received from the OCS are recognized as a liability at the fair value upon receipt of the grants, unless on that date it is reasonably certain, that the amount received would not be repaid. The liability amount is reviewed in each reporting date and any changes to the present value of cash flows, discounted using the original interest rate of the grant, are recognized in 28 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS the statement of operations. The difference between the amount received and the fair value upon receiving the grant is recognized as a deductions of research and development expenses. NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) n. Leases Payments made under an operating lease, other than contingent lease payments, are recognized in the statement of operations on a straight-line basis over the term of the lease. o. Financial income and expenses and change in fair value of derivative instruments Financial income comprises interest income on funds invested (including in respect of available-for- sale financial assets), gain from sale of available-for-sale financial assets, changes in the fair value of financial assets at fair value through profit and exchange differences i in respect of the above assets, and gains (losses) from hedging instruments that are recognized in the statement of operations. Interest income is recognized as it accrues, using the effective interest method. Financial expenses include: interest expenses and revaluation of loans received, changes in the liability to the OCS, changes in time value of provisions, changes to fair value of financial assets at fair value through profit and loss, exchange differences in respect of the above liabilities impairment loss from financial assets (except for impairment loss in respect of trade receivables, that are presented under general and administrative expenses) and losses from hedging instruments that are recognized in the statement of operations. Gain or loss from exchange rate differentials are recognized, net, as financial income or expenses, depending on exchange rate fluctuations and based on their position (net gain or loss) in the statement of operations. In the statements of cash flow, interest received and interest paid are presented under “cash flows from operating activities.” NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) p. Income taxes Income tax expense comprises current and deferred taxes. It is recognized in the statement of operations except to the extent it relates to items recognized directly in equity or in other comprehensive income or loss. Current taxes Current taxes comprise the expected tax payable or receivable on the taxable income or loss for the year. It is measured using tax rates enacted or substantively enacted at the reporting date. Current taxes also include taxes in respect of prior years. Offset of current tax assets and liabilities Current tax assets and liabilities are offset if there is a legally enforceable right to offset current tax liabilities and assets, and there is intent to settle current tax liabilities and assets on a net basis or the tax assets and liabilities will be realized simultaneously. 29 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Deferred taxes Deferred taxes are recognized in respect of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for tax purposes. The measurement of deferred tax reflects the tax consequences that would follow the manner in which the Group expects, at the end of the reporting period, to recover or settle the carrying amount of its assets and liabilities. Deferred tax is measured at the tax rates that are expected to be applied to the temporary differences when they reverse, using tax rates enacted or substantively enacted by the reporting date. A deferred tax asset is recognized for unused tax losses, tax benefits and deductible temporary differences to the extent that it is probable that future taxable income will be available against which they can be utilized. Deferred tax assets are reviewed at each reporting date and are reduced to the extent that it is no longer probable that the related tax benefit will be realized. Deferred tax assets that were not recognized are reevaluated at each reporting date and recognized if it has become probable that future taxable profits will be available against which they can be utilized. Offset of deferred tax assets and liabilities The Group offsets deferred tax assets and liabilities if it has a legal, enforceable right to offset current tax assets and liabilities, and if these are attributed to the same tax authority on the same taxable company, or on different tax companies, but they intend to settle current tax assets and liabilities on a net basis, or their tax assets and liabilities will be settled simultaneously. q. Earnings (loss) per share The Group presents basic and diluted earnings (loss) per share (“EPS”) data for its ordinary shares. Basic EPS is calculated by dividing the net income or loss attributable to holders of ordinary shares of the Company, by the weighted average number of ordinary shares outstanding during the period. Diluted EPS is determined by adjusting the net income or loss attributable to ordinary shareholders and the weighted average number of ordinary shares outstanding for the effects of all potentially dilutive ordinary shares, which include convertible notes and stock options granted to employees, directors and consultants. r. Transactions with controlling shareholder Assets and liabilities, which are subject to a transaction with a controlling shareholder, are measured at fair value upon the transaction date. As the transaction is on the equity level, the Company recognized the difference between fair value and the consideration from the transaction in its equity (capital deficiency). 30 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) s. New standards and interpretations not yet adopted: (1) IFRS 9 (2014), “Financial Instruments” The final version of IFRS 9 (2014) includes revised provisions with regard to classification and measurement of financial instruments, as well as a new model for measurement of financial asset impairment. These provisions are added to the chapter on “Hedge Accounting – General”, issued in 2013. Classification and measurement Pursuant to IFRS 9 (2014), there are three main categories for measurement of financial assets: amortized cost, fair value through profit and loss and fair value through other comprehensive income. The basis for classification of debt instruments is based on the entity’s business model for management of financial assets and on contractual cash flow attributes of the financial asset. Investment in equity instruments shall be measured at fair value through profit and loss (unless the company should elect, upon initial recognition, to present changes in fair value through other comprehensive income). IFRS 9 (2014) stipulates that changes in fair value of financial liabilities designated at fair value through profit and loss, attributed to change in own credit risk, should generally be recognized under other comprehensive income. Hedge accounting – general Under IFRS 9 (2014), additional hedging strategies applied for risk management may qualify for hedge accounting. IFRS 9 (2014) replaces the current 80%-125% test for determining the hedge effectiveness by a required economic link between the hedged instrument and the hedging instrument - without specifying any quantitative threshold. IFRS 9 (2014) also presents new models as alternatives to hedge accounting, with regard to certain credit exposures and contracts outside the scope of IFRS 9 (2014) and stipulates new guidelines for treatment of hedging instruments. IFRS 9 (2014) also stipulates new disclosure requirements. Impairment of financial assets IFRS 9 (2014) presents a new model for recognition of expected credit loss. For most assets, the new model introduces a dual approach for impairment measurement: If the credit risk associated with the financial asset has not significantly increased since the initial recognition, a provision for loss shall be recorded, equal to the expected credit loss upon default events which are possible during the twelve months after the reporting date. If the credit risk has significantly increased, usually the provision for impairment would be increased to the amount of expected credit loss over the entire duration of the financial asset. IFRS 9 (2014) applies to annual reporting periods beginning on or after January 1, 2018, although early application is permitted. IFRS 9 (2014) will be applied retrospectively, with the exception of certain reliefs. The Group has not yet commenced examining the effects of adopting IFRS 9 (2014) on its consolidated financial statements. 31 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 3 - SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) (2) IFRS 15, “Revenue from Contracts with Customers” IFRS 15 replaces the current guidance regarding recognition of revenues and presents a new model for recognizing revenue from contracts with customers. IFRS 15 provides two approaches for recognizing revenue: at a point in time or over time. The model includes five steps for analyzing transactions so as to determine when to recognize revenue and at what amount. Furthermore, IFRS 15 provides new and more extensive disclosure requirements than those that exist under current guidance. IFRS 15 is applicable for annual periods beginning on or after January 1, 2017 and earlier application is permitted. IFRS 15 includes various alternative transitional provisions, so that companies can choose between one of the following alternatives at initial application: (i) full retrospective application; (ii) full retrospective application with practical expedients; or (iii) application as from the mandatory effective date, with an adjustment to the balance of retained earnings at that date in respect of transactions that are not yet complete. The Group has not yet commenced examining the effects of adopting IFRS 15 on its consolidated financial statements. NOTE 4 - FAIR VALUE MEASUREMENT In preparing these financial statements, the Group is required to determine the fair value of certain assets and liabilities. Additional information about assumptions used in determining the fair value is presented in the following Notes: Note 21 – Share-based payment arrangements. Note 25 – Financial instruments. When determining the fair value of an asset or liability, the Group uses observable market data as much as possible. There are three levels of fair value measurements in the fair value hierarchy that are based on the data used in the measurement, as follows: • • • Level 1: Quoted prices (unadjusted) on active markets for identical assets or liabilities. Level 2: Inputs other than quoted priced included within Level 1 that are observable, either directly or indirectly. Level 3: Inputs that are not based on observable market data (unobservable inputs). As part of its accounting policies and disclosure requirements, the Group is required to determine the fair value of financial and non-financial assets and liabilities. The fair value is determined for measurement and/or disclosure, based on the methods described below. When applicable, further information about the assumptions made in determining fair values is disclosed in the notes specific to that asset or liability. 32 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 4 - FAIR VALUE MEASUREMENT (CONTINUED) a. Investments in equity and debt securities The fair value of financial assets measured at fair value through profit and loss, investments held-to- maturity and financial assets classified as available-for-sale is determined with reference to their quoted closing bid price upon close of trading, as of the reporting date. If no quoted price exists, fair value is measured with due consideration to observed market data (such as using an interest rate curve), using a valuation technique which includes the discounted cash flow method, using expected future cash flows and a discount rate commonly used in the market. b. Derivatives The fair value of marketable warrants is based on a quoted price on an active market. The fair value of warrants which are embedded in the convertible notes is measured based on directly or indirectly observed market data, using the binomial model, based on the following relevant measurement inputs regarding the notes, which have been identified for determining the fair value of the warrant component: (i) the underlying asset (the market price of the share); (ii) the price of the warrant; (iii) conversion rate; (iv) conversion price; (v) expected term; (vi) expected volatility of the underlying asset (the share price); (vii) the risk-free interest rate; and (viii) the yield to maturity of the notes. c. Non-derivative financial liabilities The fair value determined for providing disclosure, is calculated based on the present value of future cash flows with respect to the principal and interest component, and discounted using the market interest rate as of the reporting date. Market interest rate with respect to the liabilities component of convertible notes is determined with reference to market terms of similar obligations, which are not optionally convertible into shares. d. Share-based payment transactions The fair value of employee stock options is measured using the Black-Scholes formula. Measurement inputs include share price on measurement date, the exercise price of the option, expected volatility (based on weighted average historic volatility of Company shares over the expected term of the options and adjusted for changes expected due to publicly available information): (i) expected term of the options (based on historical experience and general option holder behavior), expected dividends, and the risk-free interest rate (based on government bonds). Service and non-market performance conditions are not taken into account in determining fair value. NOTE 5 - REVENUES Through the third quarter of 2014, the Group has two reportable segments. • Sleep breathing disorders – development, manufacturing and sale of devices for diagnosis of sleep breathing disorders. 33 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS • Cardiology – development, manufacturing and sale of devices for cardiological diagnosis, used for testing of Endothelial function. NOTE 5 - REVENUES (CONTINUED) Towards the end of the year ended December 31, 2013, following changes in the Company’s senior management which occurred at the end of 2013 and during 2014, the Company changed its strategic plan in order to focus on marketing its products (WatchPAT and EndoPAT) in the cardiology field (in parallel with continuing its operation in the sleep breathing disorder using its WatchPAT device), as well as focusing on the U.S. and Japanese markets, which the Company determined to be the main markets for its products, with a potential to increase its revenues. As a result, the Company changed the format of its financial statements (starting with the financial statements for the yeatr ended December 31, 2014) and reports one operating segments, the Cardiology Segment. As a result, the Company does not provide segment information for all reported years. Information about product revenues WatchPAT EndoPAT Information about geographic regions 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 9,173 7,214 7,660 5,677 6,923 6,503 16,387 13,337 13,426 The Company is domiciled in Israel and Group-marketing operations are primarily focused on Europe, the United States and Canada as well as Asia Pacific (primarily Japan). In presenting information on the basis of geographical segments, segment revenue is based on the geographical location of the customers. 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 8,212 2,744 977 1,670 2,617 168 8,012 2,244 337 917 1,304 523 7,488 3,377 368 797 580 816 16,387 13,337 13,426 United States and Canada Europe Israel Asia Pacific (excluding Japan) Japan Others Major customers 34 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS In the years ended December 31, 2014, 2013 and 2012, revenues from a customer in the sleep breathing disorder segment amounted to $2,654 thousand, $2,047 thousand and $1,920 thousand, respectively. NOTE 6 - COST OF REVENUES Raw materials, auxiliary materials, consumables and sub-contractors Payroll and related expenses Impairment of inventories Shipping Warranties Depreciation and amortization Other 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 2,050 1,727 50 417 139 138 277 4,978 1,657 1,692 37 327 86 169 290 4,258 1,270 1,829 100 380 (78) 81 220 3,802 NOTE 7 - SELLING AND MARKETING EXPENSES Payroll and related expenses Sales commissions Rent and maintenance Travel abroad and in the U.S. Consultants Advertising, public relations and sales promotion Conferences and trade shows Tax on medical devices in the U.S. Other 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 4,304 1,719 223 717 303 130 345 59 636 3,417 1,176 261 603 534 381 388 67 569 2,949 986 191 456 244 67 284 - 508 8,436 7,396 5,685 NOTE 8 - RESEARCH AND DEVELOPMENT EXPENSES Payroll and related expenses Rent and maintenance Travel abroad Patents and regulation Subcontractors and consultants Depreciation Other 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 1,354 113 26 158 93 30 243 1,168 183 14 182 101 46 199 1,081 160 13 112 138 50 138 2,017 1,893 1,692 35 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 9 - GENERAL AND ADMINISTRATIVE EXPENSES Payroll and related expenses Rent and maintenance Travel abroad Depreciation Legal expenses and cost of settlement agreement (see Note 26b) Accounting and audit fees Doubtful and bad debt Remuneration of directors Other 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 2,874 136 206 67 1,797 135 89 94 1,298 116 55 100 180 311 46 390 535 1,692 430 117 336 307 260 384 117 182 250 4,745 4,997 2,762 NOTE 10 - FINANCIAL INCOME AND EXPENSES 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 (571) 103 714 115 121 45 - - 109 (468) 829 275 1,943 - - 41 294 539 4,834 - - 89 (17) 329 2,116 6 110 190 20 - 2,817 5,235 2,436 Financial income (expenses): Interest and exchange rate differences in respect of bank deposits Other financial income Exchange rate differentials in respect of other monetary balances Financial incomes recognized in the statement of operations Financial expenses: Financial expenses in respect of convertible Notes Loss from Derivatives Loss on money market funds Financial expenses in respect of long-term loans from shareholders Other financial expenses (income) Exchange rate differentials in respect of other monetary balances Financial expenses recognized in the statement of operation 36 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 11 - INCOME TAXES a. Corporate tax rates (1) Presented hereunder are the tax rates relevant to the Company in the years 2012-2014: 2012 – 25% 2013 – 25% 2014 – 26.5% On August 5, 2013 the Knesset passed the Law for Changes in National Priorities (Legislative Amendments for Achieving Budget Objectives in the Years 2013 and 2014) – 2013, by which, inter alia, the corporate tax rate would be raised by 1.5% to a rate of 26.5% as from 2014. Current taxes for the reported periods are calculated according to the tax rates presented above. (2) On February 4, 2010, Amendment 174 to the Income Tax Ordinance (New version), 1961 (the “Tax Ordinance”) was published. The amendment added Section 87a to the Tax Ordinance, which provides a temporary order whereby Israeli Accounting Standard No. 29, “Adoption of International Financial Reporting Standards (IFRS),” that was issued by the Israel Accounting Standards Board shall not apply when determining the taxable income for the 2007, 2008 and 2009 tax years even if this standard was applied when preparing the financial statements (the “Temporary Order”). On January 12, 2012, Amendment 188 to the Tax Ordinance was published, by which the Temporary Order was amended so that Standard No. 29 shall not apply also when determining the taxable income for 2010 and 2011. On July 31, 2014 Amendment 202 to the Ordinance was issued, by which the Temporary Order was extended to the 2012 and 2013 tax years, effective retroactively as from January 1, 2012. The aforementioned amendments have no impact on the Company’s financial statements. b. Benefits under the Law for the Encouragement of Capital Investments, 1959 Approved Enterprise and Benefited Enterprise Most of the production facilities of the Company have been granted “Approved Enterprise” and “Benefited Enterprise” status under the Law for the Encouragement of Capital Investments, 1959 (the “Investment Law”). The main benefits arising from such status is the reduction in tax rates on income derived from “Approved Enterprises” or “Benefiting Enterprise”. Since the Company is a “Foreign Investors’ Company” as defined by the Investment Law, it is entitled to a ten-year period of benefits (instead of a seven-year period). A company having an approved enterprise that distributes a dividend from exempt income, will be required in the tax year of the dividend distribution to pay company tax on the amount of the dividend distributed (including the company tax required as a result of the distribution) at the 37 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS company tax rate that would have been applicable to it in the year the income was produced if it had not been exempt from tax. NOTE 11 - INCOME TAXES (CONTINUED) Amendment to the Investments Law The Investment Law was further amended as part of the Economic Policy Law for the years 2011 – 2012 (the “2011Amendment”), which became effective on January 1, 2011. The 2011Amendment sets alternative benefit tracks to the ones that were in place under the provisions of the Investment Law, including a reduced corporate tax rate for companies located in Development Region “A” of 10% in 2011 - 2012, 7% in 2013 and 2014 and 6% at 2015 and thereafter. The benefits are granted to preferred companies that qualify under criteria set forth in the Investment Law; for the most part, those criteria are similar to the criteria that have existed in the Investment Law prior to its amendment and the benefit period is unlimited in time. The 2011 Amendment stipulated that only companies in Development Region “A” will be entitled to the grant track and may benefit both from this track and from the tax benefit track, concurrently. Furthermore, the existing tax benefit tracks were eliminated (“Tax Exempt Track”, “Ireland Track” and “Strategic Track”), replaced by two new tax tracks - Preferred Enterprise and Special Preferred Enterprise, which primarily include a uniform, reduced tax rate for all company income eligible for benefits, as follows: for Preferred Enterprise - in 2011 - 2012 tax years: 10% in Development Region “A” and 15% elsewhere in Israel; in 2013 - 2014 tax years: 7% in Development Region “A” and 12.5% elsewhere in Israel; and as from 2015 tax year: 6% in Development Region “A” and 12% elsewhere in Israel. Under the transitional provisions of the Investment Law, a company is allowed to continue to enjoy the tax benefits available under the Investment Law prior to its amendment until the end of the period of benefits, as defined in the Investment Law. The 2012 tax year is the last year companies can choose as the year of election, providing that the minimum qualifying investment began in 2010. In December 2013, the Company informed the Israeli Tax Authority of its election of 2012 as the elected year. In each year during the period of benefits of its “Approved Enterprise” or “Benefitted Enterprises”, the Company will be able to opt for application of the 2011 Amendment, thereby making available to itself the tax rates as above. The Company's election to apply the 2011 Amendment is irrevocable. As of December 31, 2014, the Company's management decided not to adopt the application of the 2011 Amendment. On August 5, 2013 the Law for Changes in National Priorities (Legislative Amendments for Achieving Budgetary Goals for 2013 - 2014), 2013 (the “2013-2014 Budget Legislation”) was published. This law cancelled the planned tax reduction so that as of the 2014 tax year, the tax rate for Preferred Enterprise will be 9% in Development Region “A” and 16% elsewhere in Israel. Furthermore, an enterprise that meets the definition of a “Special Preferred Enterprise” is entitled to benefits for a period of 10 consecutive years and a reduced tax rate of 5% if it is located in Development Region “A” or a reduced tax rate of 8% if it is located elsewhere in Israel. 38 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 11 - INCOME TAXES (CONTINUED) The 2011 Amendment also provides that no tax will apply to a dividend distributed out of preferred income to a shareholder that is a company, for both the distributing company and the shareholder. A tax rate of 15% shall apply to a dividend distributed out of preferred income to an individual shareholder or foreign resident, subject to double taxation prevention treaties. The 2013-2014 Budget Legislation raised to 20% the tax rate on a dividend distributed to an individual and foreign resident out of preferred income as from January 1, 2014. Furthermore, the 2011 Amendment provides a relief with regard to no tax imposed on dividends received by an Israeli company from earnings of an Approved/Alternative/Beneficiary Enterprise earned during the benefit period in conformity with the Investment Law prior to its amendment, provided that the company distributing the dividend shall inform the Israeli Tax Authority by June 30, 2015, that it was applying provisions of the Amendment and the dividend would be distributed after the date of such notice (the “Relief”). Furthermore, any distribution out of earnings of the Exempt Enterprise would be taxable for the company making the distribution. c. Benefits under the Law for the Encouragement of Industry (Taxes) The Company qualify as “Industrial Companies” as defined in the Law for the Encouragement of Industry (Taxes) – 1969 and accordingly they are entitled to benefits of which the most significant ones are as follows: 1) Higher rates of depreciation. 2) Amortization in three equal annual portions of issuance expenses when registering shares for trading as from the date the shares of the company were registered. 3) An 8-year period of amortization for patents and know-how serving in the development of the enterprise. d. Taxation of Non-Israeli subsidiaries Subsidiaries incorporated outside of Israel are taxable pursuant to tax statutes in their country of residence. The primary tax rates applicable to the Non-Israeli subsidiaries are: Subsidiary incorporated in the U.S. – 40%. Subsidiary incorporated in Japan – 25.5%. e. Carryforward tax losses The Company has carryforward tax losses (including research and development expenses, which may be deductible) as of December 31, 2014 and 2013, amounting to $82 million (NIS 320 million) and $86 million (NIS 297 million), respectively. No deferred tax asset was recognized in respect of those carryforward tax losses, in the absence of expected utilization thereof in the foreseeable future. 39 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS f. Tax Assessments The Company has not received final tax assessments since its incorporation. The company has self- assessments deemed to be final through the 2009 tax year . NOTE 12 - PROPERTY, PLANT AND EQUIPMENT Equipment for Computers and accessories leasing and for internal use Office furniture and equipment U.S. dollars in thousands Leasehold improvements Total Cost: Balance as of January 1, 2014 Additions Disposals 1,500 48 - 559 140 (56) 200 21 - 201 10 - 2,460 219 (56) Balance as of December 31, 2014 Accumulated depreciation: Balance as of January 1, 2014 Depreciation for the year Disposals Balance as of December 31, 2014 Depreciated balance as of December 31, 2014 Cost: 1,548 643 221 211 2,623 1,419 34 - 1,453 356 109 (84) 381 105 15 - 99 20 - 1,979 178 (84) 120 119 2,073 95 262 101 92 550 Balance as of January 1, 2013 Additions Disposals 1,455 45 - 421 178 (40) 195 5 - 199 2 - 2,270 230 (40) Balance as of December 31, 2013 Accumulated depreciation: Balance as of January 1, 2013 Depreciation for the year Disposals Balance as of December 31, 2013 Depreciated balance as of December 31, 2013 1,500 559 200 201 2,460 1,353 66 - 1,419 291 92 (27) 356 90 15 - 80 19 - 1,814 192 (27) 105 99 1,979 81 203 95 102 481 40 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 12 - PROPERTY, PLANT AND EQUIPMENT (CONTINUED) a. Acquisition of property, plant and equipment on suppliers’ credit In the years ended December 31, 2014, 2013 and 2012, the Company purchased property, plant and equipment on suppliers’ credit, in the amount of $14 thousand, $27 thousand, and $24 thousand, respectively. As of the reporting dates, the cost of acquisition in fourth quarter has yet to be paid. b. Additional information The Group has assets that have been fully depreciated and are still in use. As of December 31, 2014 and 2013, the original cost of such assets is $1,863 thousand and $1, 636 thousand, respectively. NOTE 13 - INTANGIBLE ASSETS Computer software Capitalized development cost U.S. dollars in thousands Marketing rights for medical product Total Cost: Balance as of January 1, 2014 Additions Balance as of December 31, 2014 509 11 520 436 - 436 375 - 375 1,320 11 1,331 Accumulated amortization: Balance as of January 1, 2014 Additions Balance as of December 31, 2014 Amortized balance as of December 31, 2014 426 46 472 348 62 410 205 38 243 979 146 1,125 48 26 132 206 Cost: Balance as of January 1, 2013 Additions Balance as of December 31, 2013 439 70 509 436 - 436 375 - 375 1,250 70 1,320 Accumulated amortization: Balance as of January 1, 2013 Additions Balance as of December 31, 2013 Amortized balance as of 355 71 426 274 74 348 142 63 205 771 208 979 41 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS December 31, 2013 83 88 170 341 Amortization expenses of Capitalized development cost are carried to cost of revenues in the statement of operations. NOTE 14 - INVENTORIES Raw materials and auxiliary materials Goods in process Finished goods NOTE 15 - TRADE AND OTHER RECEIVABLES Trade receivables: Open accounts Checks receivable Less - Allowance for doubtful accounts Other receivables: Institutions Advances to Suppliers Employees Prepaid expenses Sundry December 31, 2014 2013 U.S. dollars in thousands 592 299 541 457 75 558 1,432 1,090 December 31, 2014 2013 U.S. dollars in thousands 3,394 33 3,427 2,227 46 2,273 (232) (225) 3,195 2,048 197 43 85 171 110 129 163 71 197 69 606 629 The Group’s exposure to credit risk, currency risk and impairment loss in respect of trade and other receivables is described in Note 25. 42 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 16 – SHARE CAPITAL AND RESERVES a. Shelf prospectus in Israel On February 12, 2013, the Company issued in Israel a shelf prospectus for future issuance of securities on the TASE. On February 26 2015 the company received a permission from the Israeli Securities Authority under its authority according to Section 23a (b) to the Israeli Securities Law – 1968 to extend the period under which the company can offer securities under the shelf prospectus by additional 12 months until February 12, 2016. For more information, see Note 18. b. Private placement On December 7, 2013, the Company’s Board of Directors approved the issuance in a material private placement of 11,111,111 ordinary shares of NIS 0.01 par value to Migdal Insurance Company Ltd., which is a qualified investor of a type listed in Addendum I to the Israeli Securities Law, 1968 at a price of NIS 1.35 per share. The private placement was concluded on December 23, 2013 and the net proceeds to the Company amounted to $4.3 million. On December 19, 2013, the Company Board of Directors approved the issuance in material private placement of 13,703,703 ordinary shares of NIS 0.01 par value to HaPhoenix Investment and Finance Ltd. and to HaPhoenix Insurance Company (Elementary Nostro) Ltd. (collectively, “HaPhoenix”), which is a qualified investor of a type listed in Addendum I to the Israeli Securities Law, 1968 at a price of NIS 1.35 per share. The private placement was concluded on January 5, 2014 (after the reporting date) and the net proceeds to the Company amounted to $5.3 million. On May 7, 2014, the Company’s Board of Directors approved the issuance in material private placement of 10,333,333 and 2,777,778 ordinary shares of NIS 0.01 par value to Yelin Lapidot Investment House Ltd. and to Migdal Insurance Company Ltd., respectively, which are qualified investors of a type listed in Addendum I to the Israeli Securities Law, 1968 at a price of NIS 1.80 per share. The private placement was concluded on May 20, 2014 and the net proceeds to the Company amounted to $6.8 million. c. Ordinary shares and additional paid-in capital 2014 Year Ended December 31, 2013 Number of shares in thousands 2012 Ordinary shares of NIS 0.01 par value: Issued and outstanding: Outstanding at the beginning of the year Private placements Exercise of stock options Conversion of notes (Series A) into shares Outstanding at the end of the year Authorized * Less than 1 thousand shares. 43 152,119 26,815 1,828 -* 135,808 11,111 5,200 - 133,400 - 2,397 11 180,762 152,119 135,808 500,000 250,000 250,000 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 16 - SHARE CAPITAL AND RESERVES (CONTINUED) Rights conferred by ordinary shares include voting rights at shareholders meetings, rights to dividends and rights upon dissolution. (1) On June 13, 2012, NIS 28,173 par value of convertible notes were converted into 10,836 ordinary shares of NIS 0.01 par value in a cash-less transaction (see also Note 18). (2) As to grant of options to employees during the year, see note 21. d. Capital reserve in respect of available-for-sale assets The capital reserve in respect of available-for-sale assets includes the net accumulated change in fair value of available-for-sale assets through derecognition or impairment of the investment. e. Capital reserve in respect of transactions with shareholders The capital reserve in respect of transactions with shareholders includes the amount waived by the Company’s shareholders in respect of services rendered to the Company, as well as interest differentials in respect of loans extended by the Company’s four major shareholders, compared to market interest rates upon obtaining the loans. f. Capital reserve in respect of translation differences of foreign operations The capital reserve in respect of translation differences of foreign operations includes all foreign currency differentials due to translation of financial statements of foreign operations denominated in a currency which is not the functional currency of the Company into dollars. NOTE 17 - EARNINGS (LOSS) PER SHARE Basic earnings (loss) per share The computation of basic earnings (loss) per share was based on the net income divided by the weighted average number of ordinary shares outstanding. 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 Net income (loss) (3,275) (12,919) 517 44 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 17 - EARNINGS (LOSS) PER SHARE (CONTINUED) Weighted average number of ordinary shares 2014 Year Ended December 31, 2013 Number of shares in thousands 2012 152,119 21,419 - 1,314 135,808 183 - 1,378 133,400 - 6 641 174,852 137,369 134,047 Balance at the beginning of the year Private placement Conversion of convertible notes (Series A) into shares and exercise of options Weighted average number of ordinary shares used in computation of basic earnings (loss) per share Diluted earnings (loss) per share The computation of diluted earnings (loss) per share was based on the net income (loss) divided by the weighted average number of ordinary shares outstanding, after adjustment for all potentially dilutive ordinary shares, as follows: 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 Net income (loss) used in computation of basic earnings (loss) per share Interest expenses in respect of convertible notes Net income (loss) used in computation of diluted earnings (loss) per share (3,275) (12,919) 517 (1,656) - (424) (4,931) (12,919) 93 45 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 17 - EARNINGS (LOSS) PER SHARE (CONTINUED) Weighted average number of ordinary shares (diluted) Weighted average number of ordinary shares used in computation of basic earnings (loss) per share Effect of conversion of convertible notes Effect of exercise of stock options Weighted average number of ordinary shares used in computation of diluted earnings (loss) per share 2014 Year Ended December 31, 2013 Number of shares in thousands 2012 174,852 39,717 - 137,369 - - 134,047 15,991 893 214,569 137,369 150,931 In the year ended December 31, 2014, the computation of weighted average number of ordinary shares (diluted) excluded 7,968,175 and 39,716,667 embedded warrants in respect of convertible notes (Series A and L), respectively, since they had an anti-dilutive effect. In the year ended December 31, 2013, the computation of weighted average number of ordinary shares (diluted) excluded 7,968,175 and 39,716,667 embedded warrants in respect of convertible notes (Series A and L), respectively, as well as 2,002,375 warrants (Series 3), since they had an anti-dilutive effect. In the year ended December 2012, the computation of weighted average number of ordinary shares (diluted) excluded 7,973,570 embedded warrants in respect of convertible notes (Series A). The average market value of Company’s shares, for calculation of the dilutive effect of warrants and stock options, is based on market prices quoted during the period in which the options were outstanding. NOTE 18 - EMPLOYEE BENEFITS Employee benefits include post-employment benefits, short-term benefits and share-based payments. As for post-employment benefits, the Group has defined benefit plans for which it contributes to insurance policies. As for share-based payments, see Note 21. As for benefits to key executives, see Note 27. Presented in the statement of financial position as follows: Short-term employee benefits – as part of current liabilities 149 172 Long-term employee benefits – as part of non-current liabilities 76 90 December 31, 2014 2013 U.S. dollars in thousands 46 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 18 - EMPLOYEE BENEFITS (CONTINUED) Composition of long term employee benefits: Present value of financed commitments Net of fair value of plan assets 1,892 (1,816) 1,976 (1,886) Total net liabilities recognized with respect to defined benefit plan 76 90 a. Post-employment benefit plans - defined benefit plan (1) Movement, at present value, in obligation with respect to defined benefit plans: Obligation with respect to defined benefit plan at the beginning of the year Benefits paid Cost of current service and interest cost Changes with respect to exchange rate differentials Actuarial gain charged to other comprehensive income Obligation with respect to defined benefit plans at the end of the year (2) Movement in plan assets: Fair value of plan assets at the beginning of the year Amounts deposited Benefits paid Changes with respect to exchange rate differentials Interest income with respect to plan assets Actuarial loss charged to other comprehensive income Fair value of plan assets at the end of the year (3) Expenses recognized in the statement of operations: Cost of current service Cost of interest Gain transferred to benefits 47 Year Ended December 31, 2014 2013 U.S. dollars in thousands 1,722 1,722 (85) 231 (222) (8) (239) 288 140 65 1,892 1,976 Year Ended December 31, 2014 2013 U.S. dollars in thousands 1,886 154 (85) (214) 62 13 1,650 257 (239) 128 60 30 1,816 1,886 Year Ended December 31, 2014 2013 U.S. dollars in thousands 161 1 10 223 (2) 9 172 230 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 18 - EMPLOYEE BENEFITS (CONTINUED) Cost of revenues Research and development expenses Selling and marketing expenses General and administrative expenses (4) Actuarial assumptions 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 40 43 63 26 66 73 59 32 68 67 58 50 172 230 243 Major actuarial assumptions as of the report date (based on weighted average): Discount rate at the reporting date Future salary growth (5) Historical data 2014 % 3.58 3.71 December 31, 2013 % 3.82 3.41 2012 % 3.99 3.66 2014 December 31, 2013 U.S. dollars in thousands 2012 Present value of obligation with respect to defined benefit plan Fair value of plan assets Plan shortfall Adjustments to liabilities, based on past experience Adjustments to assets, based on past experience 1,892 (1,816) 76 1,976 (1,886) 90 1,722 (1,650) 72 (27) 13 75 30 23 - NOTE 19 - CONVERTIBLE NOTES Convertible Notes (Series A) In March 2007, the Company issued NIS 83 million par value convertible notes (Series A), listed for trading on the TASE and registered in the owner’s name. The notes (Series A) bear interest of 7.5% per annum, with principal and interest linked to the Israeli CPI. Interest is payable semi-annually, from August 2007 through 2014. Principal is payable in three installments on February 10 of each year from 2012 through February 2014. The notes (Series A) are convertible, such that each NIS 2.6 par value notes (Series A) may be converted into one ordinary share of NIS 0.01 par value. 48 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 19 - CONVERTIBLE NOTES (CONTINUED) As of December 31, 2013, the Group bought back NIS 18,872,160 par value notes (Series A) for total consideration of $1.8 million. The notes (Series A) bought back were delisted from trading on the TASE. The buy-back resulted in a gain of $3.0 million ($1.8 million was recognized in 2008 and $1.2 million recognized in 2009). In October 2009, holders of notes (Series A) converted NIS 1,882,255 par value notes into ordinary shares. The carrying amount of the notes (Series A), which amounted to $785 thousand as of the conversion date, was charged to equity. In June 2012, holders of notes (Series A) converted NIS 28,173 par value notes (Series A) into ordinary shares. The carrying amount of the notes (Series A), which amounted to $6 thousand as of the conversion date, was charged to equity. Convertible Notes (Series L) As discussed in note 16, on February 12, 2013, the Company issued a shelf prospectus for future issuance of securities on the TASE. In March 2013, the Company issued to the public NIS 62,556 thousand par value convertible notes (Series L), negotiable and registered in the owner's name and also issued, by non-material private placement, a further NIS 13,700 par value convertible notes (Series L), negotiable and registered in the owner's name - for total net proceeds of $19.5 million. The notes (Series L) are convertible on any trading day, from the date of listing for trading through February 12, 2018 - such that each NIS 1.92 par value notes (Series L) may be converted into one Company ordinary share of NIS 0.01 par value, subject to the aforementioned adjustments. The notes mature in two principal repayments on February 28, 2017 and on February 28, 2018. The notes (Series L) bear fixed interest at 8.65% per annum (principal and interest are not linked), payable semi-annually: on August 28 and on February 28 of each year from August 2013 through February 2018. The effective interest rate is 27.7%. NOTE 20 - DERIVATIVES The conversion component of notes The net proceeds from the issuance of the convertible notes was bifurcated for measurement purposes, into a conversion component, accounted for as an embedded derivative measured at fair value on the statement of operations and is accordingly measured based on its fair value on each reporting, with changes to fair value regularly charged to the statement of operations, and a liability component, which is initially recognized based on its fair value net of attributed transaction expenses (the balance of consideration not attributed to the conversion component), accounted for at amortized cost, using the effective interest inherent therein, calculated as of the issuance date as noted above. The attributed transaction costs were separated to the different components pro-rata to the amounts of their initial recognition before attribution of said costs. The fair value of the conversion component of the convertible notes as of December 31, 2014 and December 31, 2013 amounted to $9,162 thousand and $13,031 thousand, respectively. The fair value is calculated using the binomial model with the following parameters: December 31, 2014 2013 Discount rate for convertible notes (Series L) Share price Volatility of share price 16.78% NIS 1.910 NIS 62.14% 13.86% 2.040 62.96% 49 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - SHARE-BASED PAYMENTS Option award to the Company employees, directors and consultants a. As of December 31, 2014, there were 26,935,899 stock options outstanding which were granted to employees, directors and consultants. The granted options may be exercised within five years at a share price ranging from less than $0.03 and $0.64. As of December 31, 2014, 14,801,901 options have been exercised. b. Due to the grant of said stock options, the Group incurred a non-cash expense amounting to $1,475 thousand, $143 thousand and $408 thousand, respectively, in the years ended December 31, 2014, 2013 and 2012. The remaining expense, amounting to $1,857 thousand, will be recognized by the group over the vesting period of the options. c. The stock option plan with respect to Israeli employees is governed by the terms stipulated by Section 102 of the Israeli Income Tax Ordinance. In accordance with the capital gain track chosen by the Company and pursuant to the terms thereof, the Company is not allowed to claim, as an expense for tax purposes, the amounts credited to employees as a benefit, including amounts recorded as payroll benefits in the Company’s accounts, in respect of options granted to employees under the plan. Under the capital gain track the options will be deposited with a Trustee for at least two years after the end of the year in which the options were granted. The grantees will pay the tax due to the benefit upon exercise of the options, but any expenses incurred to the Company in respect to of the options granted would not be tax deductible for the Company. Options granted to consultants, who could not be governed by the terms stipulated by Section 102 of the Income Tax Ordinance as noted above, will be taxable by the grantees upon exercise of the option, in conformity with section 3(i) of the Israeli Income Tax Ordinance. 50 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - SHARE-BASED PAYMENTS (CONTINUED) d. The following table lists the grant terms of stock options granted by the Company since 2004: Contractual duration of options (years) Fair value on the grant date U.S. dollars in thousands Terms and conditions Number of options (in thousands) Grant date/ Grantees 10 10 10 10 10 10 10 10 10 10 10 10 46 19 26 13 32 32 169 486 1,421 90 112 116 Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 73.1% and exercise price of $0.57. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 73.1% and exercise price of $0.53. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 68.59% and exercise price of $0.40. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 64.4% and exercise price of $0.41. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.91% and exercise price of $0.42. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.91% and exercise price of $0.41. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.71% and exercise price of $0.41. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.26% and exercise price of $0.47. Vesting based on achievement of sales targets for 2014-2017. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.26% and exercise price of $0.43. Vesting period of 2 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.26% and exercise price of $0.03. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant t. Calculated using the Black-Scholes formula with the following parameters: expected volatility of 65.34% and exercise price of $0.51. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 65.34% and exercise price of $0.45. 125 50 140 50 130 130 690 2,000 5,300 224 330 330 51 Options granted to consultants on January 26, 2012 Options granted to consultants on January 26, 2012 Options granted to employees on July 23, 2012 Options granted to consultants on May 28, 2013 Options granted to employees on May 28, 2013 Options granted to employees of US subsidiary on May 28, 2013 Options granted to directors on June 17, 2013 Options granted to the CEO on June 27, 2013 Performance options granted to the CEO on June 27, 2013 Relocation options granted to the CEO on June 27, 2013 Options granted to a director on January 14, 2014 Options granted to a director on January 14, 2014 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS 10 2,314 10 93 10 10 68 35 10 42 10 233 10 249 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.10% and exercise price of $0.5, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 64.99% and exercise price of $0.45. 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 64.97% and exercise price of $0.57, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 64.99% and exercise price of $0.52. Vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 62.35% and exercise price of $0.71. 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.62% and exercise price of $0.63, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.27% and exercise price of $0.59. 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.62% and exercise price of $0.63, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.27% and exercise price of $0.59. 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 63.08% and exercise price of $0.65, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 60.73% and exercise price of $0.59. 28.5% vesting period of 4 years, on annual basis, with 1 year lock-up period upon initial grant. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 61.37% and exercise price of $0.47, 71.5% vesting based on meeting goals and objectives. Calculated using the Black- Scholes formula with the following parameters: expected volatility of 60.63% and exercise price of $0.42. 5,498 Options granted to employees on March 25, 2014 230 150 99 120 700 970 Options granted to employees on March 25, 2014 Options granted to consultants on March 27, 2014 Options granted to employees on May 27, 2014 Options granted to employees on May 27, 2014 Options granted to employees on September 1, 2014 Options granted to employees on December 22, 2014 52 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - SHARE-BASED PAYMENTS (CONTINUED) e. Number of options and weighted average exercise price: Year Ended December 31, 2014 Number of options Range of exercise price (NIS) Year Ended December 31, 2013 Number of options Range of exercise price Outstanding at beginning of year Granted during the year Forfeited and expired during the year Exercised during the year 20,842,348 8,245,277 503,726 ) ( ( 1,828,000 ) 0.10- 2.01 1.57-2.50 - 0.23-1.47 18,362,370 8,524,181 (844,750) (5,199,453) 0.01- 2.20 1.78-1.96 - 0.10-0.83 Outstanding at end of year 26,935,899 0.10-2.50 20,842,348 0.10-2.01 Exercisable at end of year 12,069,760 0.10-2.19 11,886,799 0.10-2.01 Outstanding at beginning of year Granted during the year Forfeited and expired during the year Exercised during the year Outstanding at end of year Exercisable at end of year Year Ended December 31, 2012 Number of options Range of exercise price 20,645,782 315,000 (200,720) (2,397,692) 0.01- 2.07 0.01-1.58 - 0.01-0.77 18,362,370 0.10-2.20 16,625,774 0.10-2.20 The weighted average share price upon exercise of the options, for options exercised in the year ended December 31, 2014 and 2013 and 2012 was $0.58, $0.39 and $0.48, respectively. The exercise price for outstanding options as of December 31, 2014 ranged between less than $0.03 and $0.64; the weighted average remaining contractual duration was 6.72 years. The exercise price for outstanding option warrants as of December 31, 2013 ranged between less than $0.03 and $0.58; the weighted average remaining contractual duration was 5.49 years. 53 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - SHARE-BASED PAYMENTS (CONTINUED) f. Additional information in respect of share-based payments discharged using equity instruments The fair value of services rendered in return for option warrants granted is based on the fair value of option warrants granted, measured using the Black-Scholes formula based on the following parameters: Consultants, CEO Employees and directors Employees and consultants Year Ended December 31, 2013 2014 Grant date fair value, (dollars in thousands) 3,304 2,243 Parameters used in calculating the fair value: Share price (on grant date) Exercise price Expected volatility (weighted average) Expected duration of option warrant (weighted average) Expected dividend yield Risk-free interest rate Additional information: $0.43-0.70 $0.42-0.65 61%-65% 7 - 1.64%-3.40% $0.41-0.43 $0.03-0.47 64%-66% 7 - 2.68%-3.75% Share price on the date of allotment of the securities $0.43-0.70 $0.41-0.43 g. Payroll expenses with respect to share-based payments 2014 Year Ended December 31, 2013 U.S. dollars in thousands 2012 Payroll expenses with respect to share-based payments discharged using equity instruments of the Group 1,475 143 408 As to options granted to related parties, see also Note 27. h. Options based on achievements Options which vest based on achievement of two cumulative threshold conditions which include target sales and minimum operating income or loss, as specified by the Company’s Compensation Committee and Board of Directors - in line with the work plan approved by the Company’s Board of Directors. With regard to measurement of said operating income or loss to be used by the Board of Directors for review of the threshold conditions, the operating income or loss to be used would exclude depreciation and amortization, changes in provision for doubtful accounts and bad debt, expenses with respect to share-based payment and the effect of non-recurring events (“Adjusted operating income (loss)”). The adjusted operating loss for the year ended December 31 2014 was calculated as follows: 54 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 21 - SHARE-BASED PAYMENTS (CONTINUED) Operating loss, as presented in the statements of operations Adjustments: Depreciation and amortization Changes in provision for doubtful accounts and bad debt Share-based payment Adjusted operating loss U.S. dollars in thousands (3,609) 324 46 1,475 (1,764) NOTE 22 – PROVISIONS Balance as of January 1, 2014 Provisions made during the year Provisions reversed during the year Provisions realized during the year Warranties Returns U.S. dollars in thousands Total 143 149 (7) (65) 128 143 - (141) 271 292 (7) (206) Balance as of December 31, 2014 220 130 350 Balance as of January 1, 2013 Provisions made during the year Provisions reversed during the year Provisions realized during the year 171 159 (50) (137) 114 14 - - 285 173 (50) (137) Balance as of December 31, 2013 143 128 271 a. Warranties The provision is based on estimates relying on cumulative past experience with regard to similar products and services. The Group estimates that most of this liability would be realized within 12 months. b. Returns The provision for goods returned by customers is calculated based on estimates made by management, relying on the Group’s past experience. 55 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 23 - OTHER ACCOUNTS PAYABLE AND ACCRUED EXPENSES Employees and payroll related institutions Interest payable Advance payments from customers Other December 31, 2014 2013 U.S. dollars in thousands 1,178 639 95 41 1,953 905 858 84 83 1,930 For the Group’s exposure to Israeli CPI, currency and liquidity risk in respect of certain accounts payable, see Note 25. NOTE 24 - FINANCIAL RISK MANAGEMENT a. Overview The Group is exposed to the following risk factors due to use of financial instruments: • Credit risk • Liquidity risk • Market risk (including currency risk, interest risk and other price risk) This note provides qualitative information regarding the exposure to each of the aforementioned risk factors, Group objectives, policy and processes relating to risk measurement and management. Quantitative disclosure is provided throughout these consolidated financial statements. b. Risk management framework The Company’s Board of Directors has overall responsibility to establish and supervise the Group’s risk management framework. The Board of Directors appointed an Investment Committee, consisting of four members, to review exposure to market risk and to set policy on hedging such risk. c. Credit risk Credit risk is the risk of financial loss to the Group if a customer or counterparty to any financial instrument fails to meet its contractual obligations. It primarily arises from trade and other receivables and from investments in securities. Most of the Company’s cash and cash equivalents is deposited with some of Israel’s largest banks and invested in government bonds. Trade and other receivables The Group’s exposure to credit risk is primarily affected by each customer’s individual attributes. However, geographic attributes of the Group’s customer base, including risk of insolvency in the sector and country in which the customer operates, have some effect on credit risk. Approximately 16%, 15% and 14%, respectively, of the Group’s revenues in the years ended December 31, 2014, 2013 and 2012 arise from sales to a single customer. Other than this, there are no other concentrations of credit risk. 56 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 24 - FINANCIAL RISK MANAGEMENT (CONTINUED) The Group does not require collateral from customers, but in some cases, customers are required to make advance payments or transactions are conducted through letters of credit. The Group’s revenues are primarily derived from sales to customers in the U.S. and in the European Union. Management regularly monitors trade receivables and the financial statements include specific provisions for doubtful debt, which properly reflect, in the opinion of management, the inherent loss in debt whose collection is in doubtful. Investments The Group limits its exposure to credit risk by investing exclusively in NIS-denominated money market funds and in bank deposits. d. Liquidity risk Liquidity risk is the risk that the Group will encounter difficulty in meeting the obligations associated with its financial liabilities that are settled by delivering cash or another financial asset. The Group’s approach to managing liquidity is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due, under both normal and stressed conditions, without incurring unacceptable losses or risking damage to the Group’s reputation. The Group ensures sufficient cash on hand for payment of expected operating expenses, including any amounts required to fulfill financial obligations. The foregoing does not account for potential impact of extreme scenarios, which may not be reasonably anticipated. e. Market risk Market risk is the risk that changes in market prices, such as foreign currency exchange rates, consumer price index, interest rates and prices of equity instruments would impact the Group’s revenues or the value of its holding in financial instruments. The objective of market risk management is to manage and supervise exposure to market risk within common parameters, while maximizing returns. Currency risk The Group is exposed to foreign currency risk with respect to sales, purchases and loans denominated in currencies (primarily NIS, but also Euro and Japanese yen (“JPY”)) other than the respective functional currency of the companies in the Group. The currencies in which most transactions are denominated are the dollar, NIS, Euro and JPY. Most of the Group’s revenues are denominated in its functional currency (the dollar) and some in Euro and JPY. Payroll expenses in Israel are denominated in NIS. Therefore, the Group is exposed to dollar/NIS and dollar/Euro exchange rates (as well as dollar/JPY) and strives to mitigate currency risk by maintaining liquid investments and cash positions in short-term NIS-denominated deposits, in NIS and in Euro. Interest rate risk The Group has no material exposure as of December 31, 2014. 57 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS a. Credit risk 1) Exposure to credit risk The carrying amount of financial assets reflects the maximum credit exposure. Maximum credit risk exposure as of the report date was as follows: Cash and cash equivalents Trade receivables Investments in securities Bank deposits Other accounts receivable December 31, 2014 2013 U.S. dollars in thousands 9,417 3,195 8,919 131 238 21,900 11,950 2,048 6,931 203 303 21,435 The maximum exposure to credit risk in respect of cash and cash and cash equivalents, trade receivables, other accounts receivable and other investments, as of the report date, by geographic locations was as follows: Israel U.S. and Canada Asia Pacific Western Europe Eastern Europe Other December 31, 2014 2013 U.S. dollars in thousands 17,800 2,173 1,176 655 22 74 18,180 1,730 1,052 324 60 89 21,900 21,435 2) Aging of debt and allowance for doubtful accounts Debt aging for trade receivables: December 31, 2014 December 31, 2013 Allowance for doubtful accounts Gross amount U.S. dollars in thousands Allowance for doubtful accounts Gross amount U.S. dollars in thousands Not in arrears In arrears up to 3 months In arrears up to 6 months In arrears up to 12 months In arrears over 12 months 2,481 622 74 92 158 3,427 - - 23 51 158 232 1,788 167 161 88 69 2,273 1 103 72 21 28 225 58 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) Movements in the allowance for doubtful accounts: Balance at beginning of year Recognized impairment loss Bad debt Balance at end of year Year Ended December 31, 2013 2014 U.S. dollars in thousands 225 46 (39) 232 191 116 (82) 225 59 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) b. Liquidity risk Below is an analysis of contractual maturities of financial liabilities including estimated interest payments: Non-derivative financial liabilities Loan from Shareholders Convertible notes, including current maturities Trade payables Other long-term accounts payable* Other accounts payable** Total Carrying Amount Contractual Cash flow Up to6 months 6-12 months U.S. dollars in thousands 1-2 years 2-5 years Over 5 years December 31, 2014 1,696 13,505 1,083 822 2,491 19,598 2,317 24,696 1,083 886 2,491 31,473 93 848 1,083 - 1,698 3,722 91 848 - - 793 1,732 December 31, 2013 184 1,696 - 330 - 2,210 1,949 21,304 - 556 - 23,809 - - - - - - Carrying Amount Contractual Cash flow Up to6 months 6-12 months U.S. dollars in thousands 1-2 years 2-5 years Over 5 years Non-derivative financial liabilities Convertible notes, including current maturities Trade payables Other long-term accounts payable* 20,796 704 1,150 37,082 704 1,354 8,462 704 - 950 23,869 3,326 475 - - - 400 - 703 - 251 Other accounts payable** Total 1,881 24,531 1,881 41,021 1,645 11,811 236 1,186 - 24,269 - 4,029 - 706 * ** Composition is based on expected future sales of the product developed with grants from the OCS. Includes the following items: accrued expenses and other accounts payable. 60 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) c. Market risk 1) Exposure to the Israeli CPI and foreign currency risk The Group’s exposure to the Israeli CPI and foreign currency risk is as follows: Assets Cash and cash equivalents Securities available for sale Trade receivables Inventories Other accounts receivable Long-term pre-paid expenses Property, plant and equipment and intangible assets Long-term pledged deposit Liabilities Trade payables Employee benefits Provisions Other accounts payable Loan from Shareholders Financial derivatives Convertible notes Other long-term accounts payable U.S. dollar NIS Unlinked NIS CPI-linked December 31, 2014 Foreign currency Euro Other currencies Non-monetary items Total 4,988 - 2,496 - 233 - - - 7,717 562 - - 1,661 - - - 822 3,045 3,429 8,919 49 - - - - 131 12,528 562 - - 1,092 1,634 9,162 12,929 - 25,338 U.S. dollars in thousands - - - - - - - - - 661 339 - 650 - 5 - - - - - - - - - - 1,316 339 - - - - - - - - - - - - 67 - - - - 67 - - - 59 - - - - 59 - - - 1,432 368 109 756 - 2,665 - 225 350 251 - - - - 826 9,417 8,919 3,195 1,432 606 109 756 131 24,565 1,083 225 350 3,130 1,634 9,162 12,929 822 29,335 Total exposure in statement of financial position in respect of financial assets and financial liabilities 4,673 (12,810) - 1,249 280 1,839 (4,770) 61 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS Assets Cash and cash equivalents Securities available for sale Trade receivables Inventories Other accounts receivable Long-term pre-paid expenses Property, plant and equipment and intangible assets Long-term pledged deposit Liabilities Trade payables Employee benefits Provisions Other accounts payable Financial derivatives Convertible notes Other long-term accounts payable U.S. dollar NIS Unlinked NIS CPI-linked December 31, 2013 Foreign currency Euro Other currencies Non-monetary items Total U.S. dollars in thousands 2,584 - 1,261 - 188 - - - 4,033 573 - - 1,390 - - 1,150 3,113 8,385 6,931 176 - 110 - - 203 15,805 131 - - 1,079 13,039 12,740 - 26,989 - - - - - - - - - - - - 212 - 7,198 - 7,410 294 687 - 442 - 5 - - - - 169 - - - - - 741 856 - - - 34 - - - 34 - - - 35 - - - 35 - - - 1,090 326 111 822 - 2,349 - 262 271 313 - - - 846 11,950 6,931 2,048 1,090 111 822 203 23,784 704 262 271 3,063 13,039 19,938 1,150 38,427 Total exposure in statement of financial position in respect of financial assets and financial liabilities 920 (11,184) (7,410) 707 821 1,503 (14,643) 62 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) Total financial liabilities, net as of December 31, 2014 and 2013 amounted to $6,697 thousand and $16,146 thousand, respectively. Below is information about the Israeli CPI and exchange rates of significant currencies against the NIS: Israeli CPI (points) ILS exchange rate Euro exchange rate 100 JPY exchange rate Increase (decrease) during the year: Israeli CPI ILS exchange rate Euro exchange rate 100 JPY exchange rate 2) Sensitivity analysis December 31, 2014 2013 119.77 120.01 0.2571 1.2149 0.8369 0.2881 1.3777 0.9525 Year Ended December 31, 2013 2014 Change in % Change in % (0.20) (10.75) (11.82) (12.14) 1.82 7.55 4.52 (17.90) A stronger dollar against the following currencies, as of December 31, 2014 and 2013, and an increase in the Israeli CPI would have increased (decreased) equity and net income/loss by the following amounts (after-tax). The following analysis is based on changes to exchange rates and to the Israeli CPI, which the Group believes to be reasonably possible as of the end of the reported year. This analysis assumes all other variables, especially interest rates, remain constant. The analysis for December 31, 2014 and 2013 was done on the same basis. December 31, 2014 Capital deficiency Net income (loss) U.S. dollars in thousands 5% increase in the exchange rate of: NIS Euro 100 JPY (641) 63 11 (641) 63 11 A stronger USD, against the other currencies and a increase in the Israeli CPI, by a similar percentage, as of December 31, 2014 would have had a similar effect in the opposite direction, assuming all other variables remain constant. 63 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) 1% increase in the Israeli CPI 5% increase in the exchange rate of: NIS Euro 5% decrease in the exchange rate of: NIS December 31, 2013 Capital deficiency Net income (loss) U.S. dollars in thousands (74) (74) (955) 35 937 (955) 35 937 A weaken other currencies, by a similar percentage, against the dollar and a decrease in the Israeli CPI, by a similar percentage, as of December 31, 2013 would have had a similar effect in the opposite direction, assuming all other variables remain constant. d. Interest rate risk All of the Group’s interest-bearing instruments bear fixed interest. The Group’s assets and liabilities bearing fixed interest are not measured at fair value in the statement of operations. Therefore, the change in interest rates as of the reporting dates should not have any effect on net income/loss. e. Fair value of financial instruments measured at fair value, for disclosure purposes only Fair value versus carrying amount The fair value of the financial instruments included in the working capital of the Group (such as cash and cash equivalents, trade receivables, other accounts receivable, bank deposits, pledged deposits, trade payables, and other accounts payable) is usually identical or close to their carrying amount. The fair value of other financial assets and liabilities and their carrying amounts, as presented in the statement of financial position, are as follows: 2014 Carrying Amount December 31, Carrying Fair value amount U.S. dollars in thousands Level 1 2013 Fair value - 22,667 556 1,696 24,919 - 23,726 244 1,594 25,564 7,198 26,403 624 - 34,450 7,354 25,682 276 - 33,036 Liabilities: Convertible notes (series A) Convertible notes (series L) Chief scientist liability Loan from shareholders Fair value hierarchy The following table provides analysis of financial instruments measured at fair value using valuation methodology. 64 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 25 - FINANCIAL INSTRUMENTS (CONTINUED) For details of the fair value hierarchy, see Note 4. Level 1 As of December 31, 2014 Level 2 Level 3 U.S. dollars in thousands Total Financial assets - securities available-for-sale Financial liabilities - derivatives 8,919 - - 9,162 - - 8,919 9,162 As of December 31, 2013 Level 1 Level 2 Level 3 Total U.S. dollars in thousands Financial assets - securities available-for-sale Financial liabilities - derivatives 6,931 - - 13,039 - - 6,931 13,039 NOTE 26 – COMMITMENETS AND CONTINGENCIES a. Obligation to pay royalties to the OCS The Group’s liability to pay royalties to the OCS is presented in the consolidated statement of financial position under non-current liabilities and under accrued expenses and is relating to future sales of the EndoPAT™ 300 device and/or technology specific thereto. The non-current liability is discounted to the date of the relevant reporting date. The development of the said product was discontinued before completion and the Group has no sales with respect thereto. Therefore, for the purpose of calculating this liability, the Company prepares, upon each reporting date, a future sales forecast for the EndoPAT™ 300 device and/or specific technology thereof, with sales amounts discounted at a 1.5% discount rate. From time to time, the Group reviews these forecasts and updates the amount of discounted non-current liability carried on its financial statements accordingly. The liability to the OCS is calculated by the Company’s assistant controller based on a DCF model and is reviewed by the Company’s controller. As of December 31, 2014, management expects it would complete the development of the EndoPAT™ 3000 product and/or specific technology thereof by early 2016; however, management reviews from time to time the viability of completing development of the EndoPAT™ 3000. Royalties with respect to sales of the EndoPAT™ 300 product and/or specific technology thereof between 2015 and 2017 should fully cover, according to management’s estimates, its liability to the OCS. It should be noted that the gross liability (before discounting) which may be due to royalty payments to the OCS was estimated as of December 31, 2014 at $986 thousand, based on a balance confirmation from the OCS as of December 31, 2014. The fair value of the obligation in the statement of financial position is $556 thousand. b. Litigation The Company records a provision for lawsuits only if it is likely to incur a liability arising from past events and if the amount of the liability can be reasonably estimated. The Company’s assessment of the risk associated with such lawsuits is based on assessments made by management and its legal counsel. 65 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 26 - COMMITMENETS AND CONTINGENT LIABILITIES (CONTINUED)) In December 2010, the Company’s U.S. subsidiary, Itamar Medical Inc., entered into an exclusive distribution agreement with American Cardio, LLC (“ACL”) for specific operating activities in the U.S. in respect of the Company’s EndoPAT™ product, subject to achievement of certain targets for sales, market development and introduction of this product to the clinical market. In November 2011, after ACL had failed to achieve the targets specified in the distribution agreement, the subsidiary notified ACL of the termination of the distribution agreement. On March 14, 2012, ACL filed a lawsuit against the subsidiary in a Court in Oregon, U.S. (the “Lawsuit”), asking for a compensation to be determined by the Court, plus interest and legal expenses. In the lawsuit, ACL alleged, among other things, that the Company’s subsidiary was in breach of the distribution agreement. The Company’s subsidiary fully rejected all claims made by ACL. In July 2012, the Court in Oregon, U.S. accepted the Company’s subsidiary’s motion to have the case referred to an arbitration proceeding by both parties. In December 2013, the Company’s subsidiary reached a settlement agreement in the arbitration proceeding between American Cardio, LLC and American Medical Concepts, Inc. (collectively, “AMC”). The settlement agreement stipulates that by July 1, 2014, AMC would deliver to the Company’s subsidiary’s offices its inventories of EndoPAT™ products. The parties further agreed that the Company’s subsidiary would pay AMC a total of $1.13 million in four installments as follows: $0.1 million in January 2014; $0.3 million in July 2014; $0.4 million in July 2015; and $ 0.33 million in July 2016. The present value of the aforementioned cash flows, net of the value of EndoPAT™ products to be delivered to the Company’s subsidiary as noted above, amounts to $ 0.8 million. In the settlement agreement, the parties waived any claim and/or demand of any kind against each other. As of December 31, 2014, the Company recognized $363 thousand under “long-term accounts payables” in respect of the settlement agreement. c. Commitments The Company is a party to a lease agreement, whereby the Company leases a total area of 1,701 square meters (including warehouses). The lease term is for five years, with an option to extend it for additional five years. The monthly rent and management fee payable by the Company to the lessor in the year ended December 31, 2014 was $36 thousand. To secure the lease, the Company has provided to the lessor an autonomous bank guarantee amounting to $101 thousand. The Company holds non-linked NIS-denominated deposits, bearing interest at prime minus 1.67% per annum, pledged to a bank as collateral to secure the leased buildings. The Company’s subsidiary in Japan is a party to a lease agreement for leasing office space for a two- year term. To secure the lease, the Company has provided a guarantee to the lessor amounting to $300 thousand, as well as a deposit amounting to $26 thousand pledged to a Japanese bank. The Company’s subsidiary in the U.S. is a party to a lease agreement for leasing office space for a two-year term. The Company holds a dollar-denominated deposit amounting to $5 thousand, pledged to a U.S. bank, as collateral to secure the lease. The Company is also a party to operating lease agreements for leasing vehicles for 36-month terms. 66 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 26 - COMMITMENETS AND CONTINGENT LIABILITIES (CONTINUED) Minimum lease commitments of the Company and its subsidiaries under operating leases which may not be terminated, at rates in effect on December 31, 2014, were as follows: Year Ending December 31, 2015 2016 2017 U.S. dollars in thousands 426 367 304 1,097 NOTE 27 - RELATED PARTIES AND INTERESTED PARTIES a. Compensation to key executives (including directors) Company’s directors The Company entered into agreements with two of its shareholders for provision of services of Co- Chairmen, in consideration for which the Company pays each of the two shareholders $6,250 per month; the Company signed an agreement with a third shareholder for provision of services of sleep medical expert, in the amount of $3,125 per month; the Company also signed an agreement with an employee of said third shareholder, who is also an interested party, for provision of services a manager of the sleep medicine discipline of the Company, in the amount of $3,125 per month. The Company also committed to reimburse expenses incurred by one of the aforementioned shareholders incurred with respect to promoting the Company’s business, at amounts to be approved from time to time by the Company’s Board of Directors. In October 2013, the two shareholders who serve as Co-Chairmen agreed to waive one half of the amounts payable to them for their service as Co-Chairmen of the Board of Directors, for a period of one year. The amount waived in the year ended December 31, 2014 and 2013 was $33 thousand and $11 thousand, respectively. b. Transactions with related parties and interested parties Compensation to key executives (including directors) includes: 2014 Year Ended December 31, 2013 2012 Number of persons Amount U.S. dollars in thousands Number of persons Amount U.S. dollars in thousands Number of persons Amount U.S. dollars in thousands Short-term employee compensation Share-based payment 7 7 1,312 988 2,300 8 8 1,536 44 1,580 7 7 1,210 217 1,427 67 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 27 - RELATED PARTIES AND INTERESTED PARTIES (CONTINUED) Compensation to key executives (including directors) not employed by the Company: 2014 Year Ended December 31, 2013 2011 Number of persons Amount U.S. dollars in thousands Number of persons Amount U.S. dollars in thousands Number of persons Amount U.S. dollars in thousands Total benefits to a board member not employed by the Company 7 356 8 329 6 185 2014 Year Ended December 31, 2013 Transaction amounts U.S. dollars in thousands 2012 2014 2013 December 31, Carrying amount U.S. dollars in thousands Key executives (including board members) of the Company 2,656 1,909 1,612 3,260 2,241 c. Credit line agreement with shareholders On March 11, 2011, the Company entered into a credit line agreement, which was approved by its Board of Directors on March 1, 2011, with four of its major shareholders: Medtronic International Technology, Inc., Dr. Giora Yaron (including through a company wholly owned by him), Mr. Martin Gerstel and Caremi Partners Ltd. (collectively, the “Major Shareholders” or the “Lenders”), under which the Major Shareholders agreed to extend a credit line to the Company in the aggregate amount of up to $6 million, subject to certain conditions (the “Credit Line Agreement”). Under the Credit Line Agreement, the Company may utilize the credit line by making three withdrawals of up to $2 million each in January of each of the years from 2012 through 2014 in writing. Any amount not withdrawn in a given year may be withdrawn as part of the subsequent year’s withdrawal. However, any amount which will not be claimed by the Company by January 31, 2014 would be expired and the Company may no longer claim it. Each withdrawal would bear interest at a rate to be determined by the Company’s Audit Committee and Board of Directors, in conformity with criteria set forth in the Israeli Companies Regulations (Reliefs in Certain Interested Parties’ Transactions), 2000. The interest rate would not exceed the average interest rate bid to the Company by two or more commercial banks or other financing providers for a withdrawal of similar terms and conditions upon the actual withdrawal date. In February 2013, the Company obtained the Lenders’ consent to extend the repayment of the third withdrawal, from repayment in a single installment on January 31, 2015 (the original date) to repayment in two equal installments on February 28 of 2017 and 2018, in line with the repayment days of the Company’s convertible notes (Series L). Should the Company complete a public offering or a private placement of equity (including rights issuance) in which the Company would raise at least $10 million, the Company would repay the major shareholders all the amounts withdrawn, with accrued interest through the said date. 68 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 27 - RELATED PARTIES AND INTERESTED PARTIES (CONTINUED) Any amount payable by the Company on account of repayment of the said withdrawals, which would not be paid when contractually due, would be subject to arrears interest. The withdrawals (principal and interest) would be immediately repayable upon occurrence of any events listed in the agreement, which events are causing immediate repayment, as is customary for such agreements. In January 2014, the Company requested the Lenders to offset the outstanding principal balance payable to the Lenders in respect of convertible notes (Series A) they held against a third withdrawal amounting to NIS 6.9 million (approximately $1.94) on account of the credit line. On March 2, 2014 the Company’s Board of Directors approved a further withdrawal amounting to $1.94 million on account of the credit line. Following the March 2014 withdrawal, the Company may not withdraw additional funds on account of this Credit Line Agreement. As to irrecoverable undertaking to place a credit facility from certain Company’s shareholders, see Note 28. In January 2015, the Company received an irrevocable undertaking to place a credit facility of up to NIS 9,058,131 (the “credit amount”), subject to certain conditions, from certain Company’s shareholders: (i) Medtronic International Technology, Inc.; (ii) Itamar Technologies and Investments (1994) Ltd., a company controlled by Dr. Giora Yaron; and (iii) Mr. Martin Grestel, (jointly: the “three shareholders”). The credit facility may be utilized in a single withdrawing from January 2017 to February 28, 2017. Should the credit amount or a portion thereof remain unutilized after February 28, 2017, the facility will expire and the Company will no longer be entitled thereto. The credit, if utilized, will bear interest at the annual rate of 10.4% (unlinked). The principal of any amount drawn will mature in one payment on February 28, 2018. The Company is not obligated to utilize the credit amount and that the resolution to utilize the credit must be adopted subject to any binding legal provisions. For additional details, see immediate report by the Company dated January 25, 2015 (reference: 2015-01-017752). d. Private placement 1. On December 19, 2013, the Company’s Board of Directors approved the issuance in material private placement of 13,703,703 ordinary shares of NIS 0.01 par value to HaPhoenix Investments and Finance Ltd. and with HaPhoenix Insurance Company Ltd. (Elementary Nostro), which are qualified investors of a type listed in Addendum I to the Israeli Securities Act, 1968 at a price of NIS 1.35 per share. The private placement was concluded on January 1, 2014 and the net proceeds to the Company amounted to NIS18.5 million (approximately $5.3 million). 2. On May 7, 2014, the Company’s Board of Directors approved the issuance in material private placement of 10,333,333 and 2,777,778 ordinary shares of NIS 0.01 par value to Yelin Lapidot Investment House Ltd. (“Yelin Lapidot”) and to Migdal Insurance Company Ltd., respectively, which are qualified investors of a type listed in Addendum I to the Israeli Securities Act, 1968 at a price of NIS 1.80 per share. The private placement was concluded on May 20, 2014 and the net proceeds to the Company amounted to NIS23.6 million (approximately $6.8 million). 69 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 27 - RELATED PARTIES AND INTERESTED PARTIES (CONTINUED) On May 19, 2014, the Company entered into an Investment Management Agreement with Yelin Lapidot. Through December 31 2014, the company transferred to Yelin Lapidot an amount of approximately $3 million under the agreement. Management fees paid to Yelin Lapidot in the year ended December 31 2014 amounted to $5 thousand. e. Officer and directors liability insurance The Company purchased an insurance policy for its officer and directors, both for the Company’s use and its subsidiary, providing coverage up to $20 million per case and for the insurance period on aggregate, from April 1, 2014 to April 30, 2015. This insurance policy also covers directors considered to be related parties. The annual premium for the insurance policy, for the period starting on April 1, 2014 and ending on April 30, 2015 is approximately $23 thousand. On October 7, 2014, the Company’s Board of Directors approved the Company’s commitment to indemnify the Company’s officers for any liability or expense imposed due to any action taken in the course of their work with the Company. The commitment to indemnify is limited to such events as approved by the Board of Directors. The indemnification amount is limited, for a single set of events, to 25% of the Company’s shareholders equity, based on the Company’s most recent annual financial statements published prior to the indemnification date. The annual premium for the insurance policy, for the period starting on April 1, 2014, is $23 thousand and for the period starting on April 1, 2013 is also $23 thousand. f. Marketing agreement with Medtronic, Inc. (“Medtronic”) in March 2014, the Company entered into a marketing agreement (the “Agreement”) with Medtronic (a controlling shareholder). As part of the Agreement, Medtronic and the Company are to market WatchPAT as part of a comprehensive solution to be offered by Medtronic to physicians specializing in cardiological electro-physiology in the U.S. The Agreement includes a commitment by Medtronic to make a specified investment in marketing as well as minimum sales quotas. The Agreement term is 43 months. In September 2014, the Company announced agreement would be extended for six months to enable the parties to complete the process of building and entrenching the overall solution. In the year ended December 31, 2014, the Company recognized revenues from sales to third parties under the Agreement in the amount of approximately $208 thousand. Total sales commissions to Medtronic in the year ended December 31, 2014 under the Agreement totaled approximately $67 thousand. 70 ITAMAR MEDICAL LTD. NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 28 - SUBSEQUENT EVENT Irrevocable undertaking to place a credit facility to the Company In January 2015, the Company received an irrevocable undertaking to place a credit facility of up to NIS 9,058,131 (the “credit amount”), subject to certain conditions, from certain Company’s shareholders: (i) Medtronic International Technology, Inc.; (ii) Itamar Technologies and Investments (1994) Ltd., a company controlled by Dr. Giora Yaron; and (iii) Mr. Martin Grestel, (jointly: the “three shareholders”). The credit facility may be utilized in a single withdrawing from January 2017 to February 28, 2017. Should the credit amount or a portion thereof remain unutilized after February 28, 2017, the facility will expire and the Company will no longer be entitled thereto. The credit, if utilized, will bear interest at the annual rate of 10.4% (unlinked). The principal of any amount drawn will mature in one payment on February 28, 2018. The Company is not obligated to utilize the credit amount and that the resolution to utilize the credit must be adopted subject to any binding legal provisions. 71 ITAMAR MEDICAL LTD. CONDENSED FINANCIAL INFORMATION FROM CONSOLIDATED FINANCIAL STATEMENT ATTRIBUTED TO THE COMPANY SOLO AS OF DECEMBER 31, 2014  ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 Table of Contents Statement of financial position data Statement of operations data Page 3-4 5 Statement of comprehensive income (loss) data 6 Statement of cash flows data Additional information for solo financial data 7-8 9-13 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA STATEMENTS OF FINANCIAL POSITION DATA Assets Current assets: Cash and cash equivalents Investments in marketable securities available- for-sale Trade receivables Subsidiaries – current accounts Other receivables Inventories December 31 2014 2013 U.S. dollars in thousands 8,532 10,677 8,919 1,123 2,793 455 1,050 6,931 827 2,407 453 706 Total Current Assets 22,872 22,001 Non-current assets: Restricted deposits Prepaid expenses Investment in subsidiaries Fixed assets Intangible assets Total non-current assets 131 43 148 308 196 826 203 42 - 287 341 873 Total assets 23,698 22,874 The accompanying notes are an integral part of these condensed financial data. 3 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA STATEMENTS OF FINANCIAL POSITION DATA Liabilities Current liabilities: Trade payables Short-term employee benefits Current maturities of convertible notes Derivative instruments Provisions Accrued expenses Other accounts payable Total current liabilities Non-current liabilities: Convertible notes, net of current maturities Loans from shareholders Derivative instruments Long-term employees benefits Provision for loss of subsidiaries Other long-term payables Total non-current liabilities December 31 2014 2013 U.S. dollars in thousands 972 128 - - 106 1,076 1,455 3,737 12,929 1,634 9,162 76 108 822 24,731 632 154 7,198 8 80 934 1,451 10,457 12,740 - 13,031 90 49 1,150 27,060 Total liabilities 28,468 37,517 Capital deficiency Ordinary shares Additional paid-in capital Capital reserve in respect of securities available-for-sale Capital reserve in respect of currency translation adjustments Capital reserve in respect of transactions with shareholders Accumulated deficit Total capital deficiency 467 80,242 (454) (9) 385 68,238 242 (55) 1,151 (86,167) 935 (84,388) (4,770) (14,643) Total liabilities, net of capital deficiency 23,698 22,874 The accompanying notes are an integral part of these condensed financial data. 4 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA STATEMENTS OF OPERATION DATA 2014 Year Ended December 31 2013 U.S. dollars in thousands 2012 Revenues from external parties Revenues from inter-company sales Total revenues Cost of revenues Gross profit Selling and marketing expenses Transfer pricing adjustments Research and development expenses General and administrative expenses 6,348 4,798 11,146 (4,393) 6,753 2,904 1,888 2,017 3,592 4,164 4,167 8,331 (3,844) 4,487 2,941 1,105 1,893 4,235 Operating loss (3,648) (5,687) Financial income (expenses) Financial expenses Gain (loss) from change in fair value of derivatives instruments, net Financial income (expenses), net (560) (2,618) 3,743 565 715 (5,160) (3,350) (7,795) Income (loss) before income taxes (3,083) (13,482) Income taxes Income (loss) from investees Net loss attributable to equity holders of the Company (87) (105) 87 476 (3,275) (12,919) 517 5,953 4,168 10,121 (3,868) 6,253 2,501 (103) 1,692 2,289 (126) 230 (2,362) 2,992 860 734 27 (244) The accompanying notes are an integral part of these condensed financial data. 5 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA STATEMENTS OF COMPREHENSIVE LOSS DATA Net income (loss) Items that will never be reclassified to the statement of operations Remeasurement of defined benefit plan, net of tax Total Other comprehensive income (loss) items that are or may be reclassified to the statement of operations Currency translation differences Net change in fair value of securities available- for-sale, net of tax Net change in fair value of securities available- for-sale, net of tax transferred to the statement of operations Total 2014 Year Ended December 31 2013 U.S. dollars in thousands 2012 (3,275) (12,919) 517 21 21 46 (696) - (650) (35) (35) (55) 242 - 187 (7) (7) - - 83 83 76 593 Total other comprehensive income (loss), net of tax (629) 152 Total comprehensive income (loss) (3,904) (12,767) The accompanying notes are an integral part of these condensed financial data. 6 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA STATEMENTS OF CASH FLOWS DATA Cash flows from operating activities Net income (loss) Adjustments for: Depreciation and amortization Change in provision for doubtful debt and bad debt Net finance cost Loss (gain) from revaluation of derivatives Income (loss) from investees Changes in capital reserve in respect of transactions with shareholders Share-based payment Changes in: Trade receivables Other receivables Current balances with investees Inventories Trade payables Other long-term accounts payable Decrease in employee benefits Provisions Accounts payable and accrued expenses Income tax expenses (tax credit) Interest received Interest paid Net cash provided by operating activities in respect of transactions with investee Net cash used in operating activities Cash flow from investing activities Purchase of available-for-sale securities Proceeds from writing options Proceeds from sale of available-for-sale securities Investment in deposits and pledged deposits Proceeds from deposits and pledged deposits Purchase of fixed assets and intangible assets Proceeds from settlement of derivatives Development costs recognized as intangible assets Net cash provided by (used in) investing activities Cash flow for financing operations Proceeds from issuance of share capital Proceeds from issuance of warrants Repayment of notes Loans received from shareholders Proceeds from issuance of convertible notes, net Issuance expenses Repayment of shareholders’ loans Proceeds from exercise of stock options Net cash provided by (used in) financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Effect of exchange rate fluctuations on balances of cash and cash-equivalents Cash and cash equivalent at end of year 2014 Year Ended December 31 2013 U.S. dollars in thousands 2012 (3,275) (12,919) 517 228 (12) 2,957 (3,743) 107 33 1,325 (284) (3) (2,458) (340) 393 (328) (19) 26 365 88 40 (2,247) 2,072 (7,148) (2,897) (134) - - 57 (160) - - (3,134) 12,031 - (5,156) - - (250) - 305 6,930 (1,280) 10,677 (865) 8,532 315 63 3,765 3,350 (476) 11 305 436 (178) (3,647) 579 (174) 723 (12) (68) 426 (87) 104 (1,735) 3,556 (9,219) (6,602) 10 - (2,504) 2,790 (86) 190 - (6,202) 4,282 9,143 (4,856) - 10,784 (102) (3,620) 401 16,032 4,167 5,851 659 10,677 260 105 2,154 (2,989) 244 - 236 (20) 6 (4,336) (220) 62 (45) (57) (197) (70) (27) 56 (1,240) 3,697 (5,561) - - 2,294 (620) 710 (84) - (28) 2,272 - - (6,507) 1,757 - - - 141 (4,609) (4,201) 9,910 142 5,851 The accompanying notes are an integral part of these condensed financial data. 7 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 NOTE 1 - GENERAL The following financial information derived from the Group's consolidated financial statements as of December 31, 2014 (the “consolidated financial statements”) are published as part of the periodic reports relating to the Company solo (the “separate financial information”), presented in conformity with Regulation 9c (the “Regulation”) and Addendum X to the Securities Regulations (Periodic and Immediate Reports), 1970 (“Addendum X”) with regard to separate financial information of the corporation. The separate financial information should be read in conjunction with the consolidated financial statements. In this separate financial information - (1) The Company - Itamar Medical Ltd. (2) Subsidiary (3) The Group - - As defined in the consolidated financial statements As defined in the consolidated financial statements NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES APPLIED TO THE SEPARATE FINANCIAL INFORMATION The accounting policies listed in the consolidated financial statements were consistently applied to all years presented by the Company in the separate financial information, including classification of financial data in the consolidated financial statements, with required changes due to the following: a. Presentation of the financial information (1) Statement of financial position data This data includes information about amounts of assets and liabilities included on the consolidated financial statements and attributed to the Company solo (excluding with respect to subsidiaries), with details by type of asset / liability. This data also includes information about the net amount, based on the consolidated financial statements, attributed to equity holders of the Company, for total assets, net of total liabilities with respect to subsidiaries, including goodwill. (2) Statement of operations data This data includes information about amounts of revenues and expenses included in the consolidated financial statements, for net income or loss and for other comprehensive income or loss, attributed to the Company solo (excluding with respect to subsidiaries), with details by type of revenues / expenses. This data also includes information about the net amount, based on the consolidated financial statements, attributed to equity holders of the Company solo, for total revenues net of total expenses with respect to operating results of subsidiaries. 8 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES APPLIED TO THE SEPARATE FINANCIAL INFORMATION (CONTINUED) (3) Statement of cash flow data This data includes details of cash flow amounts included in the consolidated financial statements attributed to the Company solo (excluding with respect to subsidiaries), taken from the consolidated statement of cash flow, with composition for cash flows from operating activities, investing activities and financing activities. The cash flows from operating activities, investing activities and financing activities with respect to transactions with subsidiaries are presented separately on net basis, under the relevant operations based on the nature of the transaction. b. Transactions between the Company and its subsidiaries (1) Presentation Intercompany balances as well as revenues and expenses arising from intercompany transactions, which were reversed in preparing the consolidated financial statements, are presented separately from the balance with respect to subsidiaries and income with respect to subsidiaries, together with similar balances with third parties. (2) Measurement Transactions between the Company and its subsidiaries were measured in conformity with recognition and measurement principles set forth in International Financial Reporting Standards (“IFRS”), which stipulate the accounting treatment of such transactions conducted with third parties. NOTE 3 – FINANCIAL INSTRUMENTS a. Loans and borrowings This section provides information about contractual conditions of the Company's interest- bearing borrowings measured at depreciated cost. Information about interest and linkage basis: Debentures (Series A) convertible into shares Debentures (Series L) convertible into shares Currency NIS, CPI- linked NIS, non- linked As of December 31 2014 2013 Coupon Interest rate % Par value Carrying amount Par value Carrying amount U.S. dollars in thousands 7.50% - - 7,235 7,423 8.65% 19,608 22,667 21,969 26,403 9 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 NOTE 3 – FINANCIAL INSTRUMENTS (CONTINUED) b. Liquidity risk Below is analysis of contractual maturities of financial liabilities including estimated interest payments: As of December 31, 2014 Carrying amount Contractual cash flow Up to 6 months 6-12 1-2 2-5 months Years Years Over 5 Years U.S. dollars in thousands Financial liabilities other than derivatives Loan from shareholders Notes convertible into shares (including current maturities) Trade payables Other long-term accounts payable* Provisions Other accounts payable** 1,634 2,317 93 91 184 1,949 - 12,929 972 822 106 24,696 972 1,252 106 848 972 - 106 848 1,696 21,304 - - - - - 330 - 986 - 2,482 2,482 2,119 363 - - - - - - - - Total 18,945 31,825 4,138 1,302 2,210 24,239 * ** The composition of liabilities to the Office of the Chief Scientist in the Ministry of Economy is based on expected future sales of the product developed with grants from the Chief Scientist and the composition of liabilities with respect to the settlement agreement is based on the payment schedule set forth in the agreement. Includes the following items: accrued expenses, shareholders and other accounts payable NOTE 3 – FINANCIAL INSTRUMENTS (CONTINUED) 10 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 As of December 31, 2013 Carrying amount Contractual cash flow Up to 6 months 6-12 1-2 2-5 months Years Years Over 5 Years U.S. dollars in thousands Financial liabilities other than derivatives Notes convertible into shares (including current maturities) Trade payables Other long-term accounts payable* Other accounts payable** 20,796 632 37,082 632 8,462 632 950 23,869 3,326 - - - 475 - 1,150 1,497 - - 297 969 231 2,176 2,176 1,940 236 - - - Total 24,754 41,387 11,034 1,186 24,166 4,295 706 * ** The composition of liabilities to the Office of the Chief Scientist in the Ministry of Economy is based on expected future sales of the product developed with grants from the Chief Scientist and the composition of liabilities with respect to the settlement agreement is based on the payment schedule set forth in the agreement. Includes the following items: accrued expenses, shareholders and other accounts payable 11 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 NOTE 3 – FINANCIAL INSTRUMENTS (CONTINUED) b. CPI and currency risk Exposure to CPI and foreign currency risk Group exposure to CPI and foreign currency risk, based on par value, is as follows: As of December 31, 2014 Foreign currency U.S. dollars NIS, non- linked NIS, CPI- linked Euro Total U.S. dollars in thousands 714 - 650 5 - 8,532 8,919 1,123 145 131 18,850 1,369 7 67 - 972 2,531 - - - 12,929 822 17,254 74 Assets Cash and cash equivalents Securities available-for-sale Trade receivables Other accounts receivable Long-term pledged deposit Liabilities Trade payables Other accounts payable Financial derivatives Convertible notes, including current maturities Other long-term accounts payable 4,389 - 424 135 - 4,948 351 1,075 - 3,429 8,919 49 5 131 12,533 614 1,389 - - 12,929 822 2,248 - 14,932 - - - - - - - - - - - - 12 ITAMAR MEDICAL LTD. ADDITIONAL SOLO FINANCIAL DATA AS OF DECEMBER 31, 2014 NOTE 3 – FINANCIAL INSTRUMENTS (CONTINUED) f. CPI and currency risk (continued) As of December 31, 2013 Foreign currency U.S. dollars NIS, non- linked NIS, CPI- linked Euro Total U.S. dollars in thousands Assets Cash and cash equivalents Securities available-for-sale Trade receivables Other accounts receivable Long-term pledged deposit Liabilities Trade payables Other accounts payable Financial derivatives Convertible notes, including current maturities Other long-term accounts payable 1,998 - 209 108 - 2,315 278 869 - - 1,150 2,297 8,385 6,931 176 91 203 15,786 354 1,061 8 12,740 - 14,163 - - - - - - 294 - 442 7 - 743 10,677 6,931 827 206 203 18,844 - 212 - - 34 - 632 2,176 8 7,198 - 7,410 34 - - 19,938 1,150 23,904 NOTE 4 - ADDITIONAL MATERIAL INFORMATION REQUIRED FOR UNDERSTANDING THE SEPARATE FINANCIAL INFORMATION Private placement with institutional investors For information about private placement of Company shares with institutional investors in December 2013, January 2014 and May 2014, see Note 16 to the consolidated financial statements. Credit facility from Shareholders For information about Credit line facility from Company’s shareholders see Notes 27 and 28 to the consolidated financial statements. 13 ITAMAR MEDICAL LTD. PART D ADDITIONAL INFORMATION REGARDING THE CORPORATION AS OF DECEMBER 31, 2014 1  Regulation 25a – Additional Information Regarding the Corporation Company name Company ID Address of record Email address Telephone Fax Date of statement of financial position - December 31, 2014 Report date - Itamar Medical Ltd. - 512434218 - 9 Halamish Street, Caesarea 3088900 - - 04-6177000 - 04-6275598 info@itamar-medical.com - March 23, 2015 1. Regulation 8b – Very significant valuation A very significant valuation made in the reported period, with regard to valuation of the warrant component of convertible Series L Notes, is enclosed as appendix to the financial statements enclosed as Part C of this Annual Report. 2. Regulation 9d – Liabilities by maturity The Company issues a report of its obligations as a separate immediate report, soon after publication of this periodic report. 2 3. Regulation 10a – Condensed quarterly statements of operations The following table includes the Company’s condensed statements of operations for the four quarters of 2014 (U.S. dollars (“dollars”) in thousands). First Quarter Second Quarter Third Quarter Fourth Quarter Revenues Cost of revenues Gross profit 3,620 (1,071) 2,549 4,085 (1,340) 2,745 4,206 (1,208) 2,998 4,476 (1,179) 3,297 Total 16,387 (4,798) 11,589 Selling and marketing expenses Research and development expenses General and administrative expenses Operating loss Financial income (expenses) Financial expenses Gain (loss) from change in fair value of derivatives instruments, net Financial income (expenses), net Pre-tax income (loss) Taxes on income Income (loss) for the period Remeasurement of defined benefit plan, net of tax Currency translation differences Net changes in fair value of marketable securities available-for-sale, net of tax classified to statement of operations Comprehensive income (loss) for the period 1,888 2,081 1,951 2,516 8,436 429 540 552 496 2,017 1,267 (1,035) 1,109 (985) 124 (1,121) 41 (1,117) 1,163 (668) (498) (26) 1,206 (921) 4,745 (3,609) ( 135 ) ( 468 ) (553) (2,817) (4,610) 1,979 7,365 (991) 3,743 6,841 6,173 (201) (1,679) (2,600) 93 458 (3,151) 124 ) ( 5,972 (2,507) (3,275) - 6 21 - 21 46 (436) ( 343 ) ( 696 ) 5,542 (2,829) (3,904) (5,607) (6,642) (30) (6,672) - 49 (13) (6,636) 903 (82) 14 (68) - (9) 96 19 3 4. Regulation 10c – Use of proceeds from securities that were offered in the Prospectus recently published In February 2013, the Company issued a revised shelf prospectus for issuance of shares, notes, option warrants and commercial securities (the “Shelf Prospectus”“). On February 27, 2013, the Company issued a first shelf offering report pursuant to the shelf prospectus (the “Shelf Offering Report”), whereby it issued to the public NIS 62,556,000 par value Series L Notes convertible into the Company’s ordinary shares (In this Section: the “Notes”) for total gross consideration (before issuance expenses) of NIS 61,881 thousand (the “issuance proceeds”). It should be noted that in addition to the public issuance, the Company issued on March 12, 2013 an additional NIS 13,700,000 par value Series L Notes, convertible into the Company’s ordinary shares, by way of a non-material private placement with three investors, for total consideration of NIS 13,494 thousand. For more information see Section 3 of Part A of this Annual Report “Investments in corporate capital and transactions in corporate shares”. In accordance with the Shelf Offering Report, the proceeds from the offering would serve the Company as follows: (i) for its current business operations, including: recruiting and supporting new partners/distributors, expanding sales infrastructure, marketing operations, penetrating new geographies and market segments, developing new indications for existing products, in line with decisions by Company management to be made from time to time; and (ii) out of total issuance proceeds, $3.6 million received from four of the Company’s shareholders: Medtronic International Technology, Inc. (“Medtronic”), Dr. Giora Yaron, Mr. Martin Grestel and Caremi Partners Ltd. (“Caremi”) would serve the Company for early repayment of the private loan provided by these four shareholders to the Company prior to issuance of notes (the “private loan”)1. Actual use of the issuance proceeds is in conformity with the designation set forth in the Shelf Offering Report; for this matter, see also Section 31 in Part A of this Annual Report - on the Company’s strategic plan and focus on the US market. 1 According to terms of the private loan agreement, the Company may effect prepayment of the private loan. For information regarding the private loan and repayment thereof by way of the proceeds of the issuance of the (Series L) Notes, see Section 24.3 of Part A of this Annual Report. 4 5. Regulation 11 - List of investments in subsidiaries and associated companies The following table lists information about material holdings of the Company in subsidiaries and associated companies: Name of subsidiary Country of incorporation Authorized share capital Issued share capital Itamar Medical Inc. U.S. Japan Itamar Medical Japan Kabushiki Kaisha 10,000 ordinary shares 100 ordinary shares $200, consisting of 20,000 ordinary shares of $0.01 par value each JPY 1,000,000, consisting of 100 ordinary shares of JPY 10,000 par value each Par value of shares held by the Company Company holding share in capital, voting rights and right to appoint directors 100% $100 Carrying amount on the Company’s solo financial statements in thousands of dollars 148 Inter- company balance in thousands of dollars 1,923 100% JPY 1,000,000 (108) 870 Balances of the subsidiaries in the U.S. and in Japan are primarily due to inter-company sales (including transfer pricing) and payments made by the Company to suppliers of these subsidiaries. The carrying amount of investment in the U.S. subsidiary in the Company’s financial statements as of December 31, 2014 amounted to $148 thousand. The provision for loss of the Japanese subsidiary in the Company’s financial statements as of December 31, 2014 amounted to $108 thousand. 6. Regulation 12 - Changes in investments in the subsidiaries and associated companies No material change in the Company’s investments in the U.S. and Japanese subsidiaries occurred during the reported year. 7. Regulation 13 – income (loss) of subsidiaries and associated companies and revenues therefrom Below is information about income/loss of each subsidiary in the reported year, adjusted for the date of the statement of financial position; other information included: dividends, management fee and interest paid by subsidiaries/associated companies to the Company in the reported year (dollars in thousands): 5 Income (loss) Name of subsidiary Before the 2014 tax year After the 2014 tax year Income (loss) for 2014 Dividends distributed to the Company in 2014 Interest paid to the Company in 2014 Manageme nt fee paid to the Company in 2014 Itamar Medical Inc. Itamar Medical Japan Co. Ltd. 164 (34) 127 (34) 127 (34) - - - - - - In the reported year and thereafter, the Company received no dividends, management fee or interest from subsidiaries with respect to the reported period - and is not eligible to receive any such payment. 8. Regulation 20 - Trading on stock exchange In 2014, the Company listed for trading on the Tel Aviv Stock Exchange Ltd. (“TASE”): 8.1. 1,828,000 ordinary shares of NIS 0.01 par value of the Company, following exercise of 1,828,000 options granted to employees, officers and consultants. 8.2. 385 ordinary shares of NIS 0.01 par value of the Company, following a conversion of NIS 740 par value of Series L Notes, convertible into shares. 8.3. In January 2014, 13,703,703 ordinary shares were listed for trading on the TASE following a private placement of the Company shares with HaPhoenix Investments and Finance Ltd and HaPhoenix Insurance Company Ltd. (nostro account- elementary). 8.4. In May 2014, 13,111,111 ordinary shares were listed for trading on the TASE following a private placement of the Company’s shares to Yellin Lapidot Investments Ltd and Migdal Insurance Company Ltd. During 2014 there were no suspensions in trading in the Company’s securities. 9. Regulation 21 – Compensation of interested parties and senior officers 9.1. Compensation provided in the reported year to each of the top five compensated senior officers of the Company or its subsidiary, provided in conjunction with their office with the Company or its subsidiary, whether provided by the Company or by another party; also compensation provided in the reported year to each of the top three compensated senior officers of the Company, provided in conjunction with their office with the Company, if not included in the former group. 6 Name Position Gilad Glick (a) Eldad Singer (d) Dr. Jacob Sheffi (c) Chris Hallett (d) Arnon Tuval (e) President and CEO VP Senior VP VP of Subsidiary VP of Subsidiary Office during the reported period Full year Full year Full year Full year Full year Compensation for services rendered (NIS in thousands)(1) Other compensation(1) Commission Other Interest Rent Other Total Full-time position equivalent Holding share in corporation’s capital(2) Salary(3) Bonus Share-based payment(4) Management fee Consulting fee 100% 100% 100% 100% 100% - - - - - 1,124 365 2,135 388 60 692 415 473 - - - 159 395 154 116 - - - - - - - - - - - 670 - 486 380 - - - - -- - - - - - - - - - - - - - - - 3,624 1,277 1,087 1,055 969 (1) (2) (3) (4) (5) Compensation amounts are in terms of cost to the Company. As of the publication date of this report. Annual salary includes social benefits, company car and expense reimbursement (in NIS, in terms of cost to the Company). The amount under “Share-based payment” reflects the expense recognized by the Company in 2014, in conformity with IFRS 2, with respect to grant of options. For information about terms and conditions of the Company’s employee compensation plans, see section 20 of chapter “Description of Corporate Business” in Part A of this Annual Report. The Company does not include in this table any interest payments in respect of the Series A and Series L Notes that were repaid on February 10, 2014) held by officers (if any). 7 (a) President and CEO - Gilad Glick Mr. Gilad Glick has been serving as the Company’s President and CEO since July 1, 2013. Through December 31, 2013, Mr. Gilad Glick was employed by the Company under an employment term whose highlights were described in the immediate reports issued by the Company on June 24, 2013 (reference number: 2013-01-071610) dated March 29, 2014 (reference number: 2014-01-028128), on August 14, 2014 (reference number: 2014-01-134136) and on August 31, 2014 (reference number: 2014-01-146286) (the “employment agreement”). On March 31, 2014, a service agreement entered into effect between Mr. Gilad Glick and the Company by which Gilad Glick will provide to the Company the services of the Company’s President and CEO as an independent contractor (rather than as salaried employee) as from January 1, 2014 against tax invoices, in conformity with the service agreement entered with him (the “service agreement”) . The transition to the service agreement was made at Mr. Gilad Glick’s request at no additional cost to the Company, compared to the cost of his employment agreement; the major change is that the cost to the Company of his monthly salary, social benefits and cost of car maintenance for Mr. Gilad Glick were grossed-up to the fixed amount payable monthly to Mr. Gilad Glick in conformity with the service agreement. In addition, following the approval of the Company’s budget for 2014, it was decided, according to section 272(d) of the Companies Law, that the targets used to determine Mr. Gilad Glick’s entitlement to a bonus and the vesting of options in respect of 2014 would be adjusted to those that had been set for the purpose of the vesting of the performance options to the Company’s employees, according to the outline published on March 2, 2014. Below is a summary of the service agreement highlights: 1. The monthly amount payable to Mr. Gilad Glick for his services as the Company’s President and CEO is $28,606 plus VAT. Mr. Gilad Glick is not entitled to any retirement insurance, disability insurance and study fund contributions. Mr. Gilad Glick is entitled to payment for absence due to vacation of up to 20 days per year as well as for absence due to sickness of up to 18 days per year. 2. According to the service agreement, either party may terminate the service agreement at any time, subject to advance written notice of 120 days, or immediately under circumstances set forth in the agreement. 3. Mr. Gilad Glick may choose between a company car, in conformity with the Company’s policy, or payment by the Company equal to the cost to the Company of such company car (the estimated cost is approximately $1,800 a month). It should be noted that the aforementioned amount includes payment in lieu of a vehicle so that Mr. Gilad Glick, according to such alternative, is not entitled to a company car. 4. Mr. Gilad Glick is entitled to a cell phone, laptop computer and expense reimbursement in conformity with the Company’s procedures. 8 5. Mr. Gilad Glick is also entitled to an annual cash bonus of up to $187,500 for each year from 2014 through 2017, subject to the Company achieving sales revenue targets. In respect of 2014, the Company’s CEO will receive a bonus in the sum of $93,750 since the minimum target of the Company’s sales revenue was achieved in respect of that year.2 Since his employment start date through the date of this report, Mr. Gilad Glick was granted, in conformity with terms of his employment terms and in accordance with the Company’s stock option plan for employees, consultants and service providers, 7,524,181 options, some of which vest over time and some are based on achievement of sales targets, exercisable into 7,524,181 ordinary shares, as follows: Options held as of the report date Exercise price per option warrant NIS 1.56 5,300,000 Of which: options vested as of the report date Fair value 220,8333 NIS 5,097,028 NIS 1.71 2,000,000 833,333 NIS 1,757,401 NIS 0.10 224,181 186,817 NIS 326,990 Grant date August 12, 2013 August 12, 2013 August 12, 2013 No. of options 7,524,181 Performance Type of option options 2,000,000 Service options 224,181 Service options (b) VP Sales - Mr. Eldad Singer Mr. Eldad Singer has been employed by the Company as VP sales since February 9, 2011. According to his employment agreement, his employment will be terminated one month after either party giving written notice to the other party of their wish to terminate the agreement, or immediately under circumstances set forth in the agreement. The salary component includes all of the following: base monthly salary of NIS 30,000 (updated in line with national pay increase agreements)4, study fund, managers’ insurance, disability insurance, annual vacation, cell phone, company car and expense reimbursement in conformity with the Company’s procedures. In addition to the aforementioned base salary, Mr. Eldad Singer is eligible to receive sales commissions. The sales commissions with respect to 2014 were determined as follows: the commission rate for the Company’s sales, net of sales to pharmaceutical companies, ranges between 0% for sales of up to $2.9 million per calendar year and 7% for sales of up to $8 million per calendar year (the average commission rate in case of achievement of the annual sales target is 2.35%). The following sales commissions were actually paid to Mr. Eldad Singer over the past three years: 2 The bonus to the CEO in respect of 2014 was increased by 50% since ’he started his employment in the Company in the middle of 2013 and it was decided that a bonus in respect of half a year in 2013 would be granted in accordance with the performance in 2014. 3 Vesting of the initial portion of performance options (in respect of 2014) is after the minimum target of Company sales was achieved in respect of 2014. 4 As of the report date, the base salary amounts to NIS 31,200. 9 Year 2012 2013 2014 Sales actually collected (dollars in millions) 5.0 4.7 5.6 Commissions (dollars in thousands) 76 62 46 Since his employment start date through the date of this report, Mr. Eldad Singer was granted, in conformity with terms of his employment terms and in accordance with the Company’s stock option plan for employees, consultants and service providers, 700,000 options exercisable into 700,000 Company ordinary shares, as follows: Exercise price per option NIS 0.23 Options held as of the report date 22,400 Of which: options vested as of the report date 22,400 Fair value NIS 6,346 NIS 0.48 27,600 27,600 NIS 7,119 NIS 2.19 50,000 50,000 NIS 51,279 NIS 1.98 300,000 300,000 NIS 334,438 NIS 1.73 85,500 26,719 NIS 138,274 No. of options Class of options 22,400 Service options 27,600 Service options 50,000 Service options 300,000 Service options 85,500 Service options 214,500 Performance NIS 1.57 214,500 14,658 NIS 300,805 options Grant date March 25, 2009 March 26, 2009 January 26, 2010 April 13, 2011 December 24, 2013 December 24, 2013 (c) (d) Chief Technology Officer - Dr. Jacob Sheffy Dr. Jacob Sheffy has been employed by the Company as Chief Technology Officer since January 1, 1997. According to his employment agreement, his employment will be terminated one month after either party giving written notice to the other party of their wish to terminate the agreement The salary component includes all of the following: base monthly salary of NIS 46,791 (updated in line with national pay increase agreements)5, study fund, managers’ insurance, annual vacation, company car, cell phone and expense reimbursement in accordance with the Company’s procedures. Since his employment start date through the date of this report, Dr. Jacob Sheffy was granted, in conformity with terms of his employment terms and in accordance with the Company’s stock option plan for employees, consultants and service providers, 2,740,800 options exercisable into 2,740,800 Company ordinary shares, as follows: 5 As of the report date, the base salary amounts to NIS 49,598. 10 Options held as of the report date Of which: options vested as of the report date - - - - - - - - Exercise price per option NIS 0.01 NIS 0.01 NIS 0.01 NIS 0.23 Fair value NIS 2,399 NIS 34,254 NIS 37,177 NIS 172,621 NIS 0.23 400,000 400,000 NIS 63,491 NIS 0.23 300,000 300,000 NIS 224,417 NIS 0.23 652,800 652,800 NIS 81,645 NIS 1.73 285,000 89,063 NIS 1,002,683 Class of options No. of options 100,000 Service options 18,000 Service options 20,000 Service options 250,000 Service options 400,000 Service options 300,000 Service options 652,800 Service options 285,000 Service options 715,000 Performance NIS 1.57 715,000 23,171 NIS 1.—2.683 options Grant date April 9, 1997 January 4, 2000 January 1, 2001 December 9, 2003 December 19, 2005 May 1, 2007 March 25, 2009 December 24, 2013 December 24, 2013 (e) VP Sales of the U.S. Subsidiary - Mr. Chris Hallett Mr. Chris Hallett has been employed as VP Sales of the U.S. Subsidiary since October 1, 2013. Each of the parties may give notice of the termination of the engagement immediately, without reason or cause. According to the agreement with him, Mr. Chris Hallett is entitled to compensation as set out below: base monthly salary of $8,7506, medical and dental insurance, annual vacation, cell phone, company car (including financing of the car expenses) and expense reimbursement in conformity with the Company’s procedures. In addition, on the date of the commencement of Mr. Hallett’s employment, the Company paid Mr. Hallett a one-time advance in the sum of $37,500 on account of the compensation due to Mr. Hallett, which will be returned to the Company on the last working day or on such other date as the Company shall exclusively determine. In addition, bonuses were paid to Mr. Chris Hallett in respect of sales in the last two years, as follows: Year * 2013 2014 Actual Sales (dollars in millions) 8.2 Bonus (dollars in thousands‘) 28 141 * Assured commission. 6 As of the report date, the base salary amounts to $ 9,188. 11 Since his employment start date through the date of this report, Mr. Chris Hallett was granted, in conformity with terms of his employment terms and in accordance with the Company’s stock option plan for employees, consultants and service providers, 400,000 options exercisable into 400,000 Company ordinary shares, as follows: Grant date December 24, 2013 December 24, 2013 No. of options 114,000 286,000 Class of options Service Options Performance Options Exercise price per option NIS 1.73 Options held as of the report date 114,000 Of which: options vested as of the report date 35,625 Fair value NIS 184,365 NIS 1.68 286,000 7,150 NIS 401,073 (f) VP Operations of the U.S. Subsidiary – Mr. Arnon Tuval Mr. Arnon Tuval has been employed as VP Operations of the U.S. Subsidiary since July 28, 2013. Each of the parties may give notice of the termination of the engagement immediately, without reason or cause. According to the agreement with him, Mr. Tuval is entitled to the compensation set out below: base monthly salary of $10,0007, medical and dental insurance, annual vacation, cell phone, company car (including financing the car expenses) and expense reimbursement in conformity with the Company’s procedures. In addition to the base salary detailed above, Mr. Arnon Tuval is entitled to sales commissions. The sales commissions in respect of 2014 was set as follows: The sales commissions on the Company’s sales to a material customer of the Company is progressive and fluctuates between 0% for sales of up to $1.1 million per calendar year and 4.55% for sales of up to $2.2 million per calendar year and at the rate of 9% for sales exceeding $2.2 million (the average commission rate to the extent he meets the annual sales target, aggregates 2.28%), and in addition, Mr. Arnon Tuval is entitled to bonuses for complying with additional sale targets as well as in respect of operational targets. Actually, bonuses for sale and operational targets in the last two years were paid to Mr. Arnon Tuval, as follows: Year 2013* 2014 Actual Sales (dollars in millions) 2.5 Bonus (dollars in thousands)‘ 33 121 * Assured commission. ** Sales to a material customer. 7 As of the report date, the base salary amounts to US$ 10,500. 12 Since his employment start date through the date of this report, Mr. Chris Hallett was granted, in conformity with terms of his employment terms and in accordance with the Company’s stock option plan for employees, consultants and service providers, 400,000 options exercisable into 300,000 Company ordinary shares, as follows: Grant date December 24, 2013 December 24, 2013 No. of options 85,500 Class of options Service Options 214,500 Performance Options Options held as of the report date 85,500 Of which: options vested as of the report date 26,719 Exercise price per option NIS 1.73 Fair value NIS 138,274 NIS 1.68 214,500 5,363 NIS 300,805 (g) Vesting conditions and expiration dates of options warrants Unless otherwise expressly stipulated in the aforementioned description, the vesting and exercise terms of options granted to the aforementioned officers are as follows: Grants other than grants dated December 24, 2013: One quarter of option warrants granted to the grantee shall vest upon the first anniversary of the grant date. The remaining three quarters of options granted shall vest monthly, at the end of each calendar month, over 36 calendar months following the first anniversary of the grant date. Options granted in or after the second grant, would vest in 48 equal monthly lots at the end of each calendar month after the grant date. Grants dated December 24, 2013: For options granted by approval of the Company’s Board of Directors dated December 24, 2013: 30% would vest over time as described above, and 70% would vest based on achievement of targets (at Company and department levels) and based on evaluation by the CEO in each year from 2014 through 2017 (the “relevant years”). Threshold conditions - options which vest based on target achievement are subject to two cumulative threshold conditions to be approved in advance, in each calendar year for the subsequent year: minimum annual growth rate of Company revenues and minimum operating income/loss. If both threshold conditions are fulfilled, the options would vest as follows: Company-level targets (40% of all performance options, 10% per year) - for each relevant year, three growth targets would be set for the Company’s revenues, which would govern eligibility for up to 10%: minimum target (eligibility for 3.33%), intermediate target (eligibility for 6.66%) and maximum eligibility target (eligibility for 10%). Options not vested in any relevant year may vest in subsequent relevant years if in said relevant year, both the revenue target for that year and the cumulative revenue target for that year and preceding year(s) are achieved (the sales target for the relevant year shall not be lower than the revenue target for previous relevant years). Since company-wide targets are based on revenue growth over the previous year, the previous years’ data is irrelevant for determining the number of options vested in the relevant year. 13 Department-level targets (40% of all performance option warrants, 10% per year) - for each relevant year, multiple department-level targets would be set, reflecting the department’s targets from the point of view of the Company Board of Directors. These targets comprise of monetary targets, quantitative targets and event-dependent targets. Each target would be assigned a weighting as percentage of total options allocated to department-level targets and the degree of achievement: minimum, intermediate and maximum - for eligibility for 3.33%, 6.66% and 10% of performance option warrants. Individual targets (20% of all performance option warrants, 5% per year) - for each relevant year, an evaluation by the CEO would determine eligibility for up to 5% of performance options. Of all performance options thus vested, 50% would vest immediately and 50% would vest one year later. For more information, see option outline issued by the Company on March 2, 2014 (reference number: 2014-01-003498). After the tenth anniversary of the grant date, all unexercised options shall expire and shall not confer on the grantee any right whatsoever. On August 6, 2014, the Company’s Board of Directors approved the adjustment of the performance options for the years 2015 to 2017 (no change having occurred in the vesting terms for 2014), in a manner whereby the same will vest only subject to compliance with the revenue targets (so that the revenue targets changed from 40% to 100% in respect of the years 2015, 2016 and 2017), provided that the threshold conditions will have been achieved. Options that were granted after that date were also granted with revenue targets only. For further details, see immediate reports issued by the Company on August 14, 2014 and on August 31, 2014 (reference numbers: 2014- 01-134136 and 2014-01-146286, respectively). 9.2. Below is information concerning compensation provided by the Company or an entity controlled there by to any interested party in the Company, other than those listed in section 9.1 above, with respect to the reported year for services rendered as officer of the Company or an entity controlled there by, whether or not employed and even if such interested party is a senior officer: As of the report date, the Company Board of Directors consists of seven directors (including two external directors) eligible for compensation as follows: (i) the Company is party to Consulting Agreements with two directors, Dr. Giora Yaron and Mr. Martin Grestel as described below; (ii0 the two external directors and another director (Mr. Ilan Biran) receive compensation equal to the maximum compensation allowed to expert external director by Regulations 4, 5 and 7 of the Corporate Regulations (Rules for Compensation and Expense Reimbursement for External Directors), 2000 (“External Directors Compensation Regulations”); (c) another director (Dr. Samuel Morry Blumenfeld) receives compensation equal the maximum compensation by Regulations 4,5,7 of the External Directors Compensation Regulations; and (d) another director, Mr. Garry Ellis, is not compensated by the Company. to 14 Total compensation paid to all directors with respect to 2014 amounted to NIS 648 thousand in terms of cost to the Company. The table below provides details of compensation paid to directors: Below are details of compensation to directors in the reported year, which is not in conformity with the maximum amount pursuant to the External Directors Compensation Regulations: Compensated party Compensation for services rendered (NIS in thousands)(1) Other compensation (NIS in thousands)(1) Name Position Dr. Giora Yaron (a) Mr. Martin Grestel (b) Dr. Samuel Morry Blumenfeld (c) Ms. Miri Katz (d) Ms. Regina Ungar (e) Mr. Ilan Biran (f) Medtronic International Technology, Inc. Co-Chairman of the Board of Directors Co-Chairman of the Board of Directors Director External Director External Director Director Controlling shareholder Scope of positio n Holding share in corporation ’s capital(4) Payroll Bonus Share- based payment(2) Manage ment fee Consul ting fee Commis sion Other Interest(3) Rent Other Total - - - - - - - 14.05% 7.45% 0.00% 0.00% 0.00% 0.00% 19.93% - - - - - - - - - - - - - - 205 - 18 79 116 213 - - - - - - - - 171 34 - - - - - - - - - - - - - - - - - - - 119 94 - - - - 137 - - - - - - - - - - - - - - 495 128 18 79 116 213 137 (1) Compensation amounts are in terms of cost to the Company. (2) The amount under “Share-based payment” reflects the expense recognized by the Company in its financial statements as of December 31, 2014, in conformity with IFRS 2, with respect to grant of options. (3) The Company only lists in this table interest payments with respect to a credit facility provided to the Company by its four major shareholders, as set forth in section 24.4 of Part A of this Annual Report (this table does not include any interest payments with respect to Series A notes (redeemed on February 10, 2014) and in respect of Series L Notes held by directors and interested parties). (4) As of the publication date of this report. 15 (a) Co-chairman of the Board of Directors - Dr. Giora Yaron Dr. Giora Yaron provides consulting services to the Company (In this Section: the “Consulting Services”) pursuant to an agreement dated May 14, 2001, as amended (In this Section: the “Consulting Agreement”) between the Company and Itamar Technologies and Investments (1994) Ltd. (“Itamar Technologies”), a company controlled by Dr. Giora Yaron. The Consulting Services rendered by Dr. Giora Yaron include: services as Co-chairman of the Board of Directors and business-related Consulting Services, including fund-raising activities for financing of the Company’s operations, with a scope of at least two days per week. On October 7, 2014, the general meeting of the Company’s shareholders approved extension of the Consulting Agreement by a further three years, i.e. through October 23, 2017, unless either party should announce their wish to terminate the agreement subject to 30 days’ advance notice. The agreement would terminate in any case where Consulting Services may not be provided by Dr. Giora Yaron for any of the causes listed in the agreement. In such case, Itamar Technologies would nominate to the Company a candidate for providing the services; should the nominee be accepted by the Company, the agreement would continue under the same terms and conditions. The monthly consideration payable for the services pursuant to the Consulting Agreement amounts to $6,250. In addition, the Company reimburses Dr. Giora Yaron for any reasonable expenses incurred in conjunction with promoting the Company’s business subject to the Company’s policy on expense reimbursement in Israel and overseas. As part of the Consulting Agreement, Itamar Technologies and Dr. Giora Yaron committed to maintain confidentiality and to not compete with the Company for the term of the agreement and a further two years thereafter. As part of the update to the Company’s strategic plan for the coming years and the decision to downsize the number of the Company’s employees, Dr. Giora Yaron announced his voluntary decision to reduce by 50% the consideration payable to him for his office as Co-Chairman, for a period of one year. The aforementioned reduction became effective on October 1, 2013 and was ended on September 30, 2014. It should be noted that no other changes were made to his terms of office and scope of work as Co-Chairman of the Board of Directors. From the start date of providing Consulting Services to the Company through the date of this report, Dr. Giora Yaron was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers, 863,000 options exercisable into 863,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date 200,000 $0.10 200,000 Of which: options vested as of the report date 200,000 Fair value NIS 30,294 December 19, 2005 May 1, 2007 January 14, 2014 333,000 330,000 NIS 1.47 NIS 1.78 333,000 330,000 333,000 96,250 NIS 240,619 NIS 389,152 16 Dr. Giora Yaron is also eligible to receive interest payments with respect to the Company’s Series A and Series L notes which he holds, in conformity with terms and conditions of these notes. (b) Co-chairman of the Board of Directors - Mr. Martin Grestel Mr. Martin Grestel provides Consulting Services to the Company (In this Section: the “Consulting Services”) pursuant to an agreement between him and the Company, dated September 2005 (In this Section: the “Consulting Agreement”). The Consulting Services rendered by Mr. Martin Grestel include: services as Co-chairman of the Board of Directors and business-related Consulting Services, including fund-raising activities for financing of the Company’s operations. On October 7, 2014, the general meeting of the Company’s shareholders approved extension of the Consulting Agreement by a further three years, i.e. through October 23, 2017, unless either party should announce their wish to terminate the agreement subject to 30 days’ advance notice. The terms and conditions of this agreement are essentially similar to those of the Consulting Agreement with Dr. Giora Yaron, as listed in sub- section (g) above. The monthly consideration payable for services pursuant to the Consulting Agreement amounted to $6,250 (for Consulting Services provided two days per week); this amount was reduced as part of streamlining measures previously adopted by the Company - and even after pay levels at the Company were restored, Mr. Martin Grestel informed the Company that he would continue to waive 80% of the consulting fee payable to him while concurrently reducing the scope of services provided by him - down to two days per month. Accordingly, the general meeting of the Company’s shareholders approved, on October 24, 2011 and on October 7, 2014, entering into the contract with Mr. Martin Grestel for the scope of 1-2 days per month for monthly consideration amounting to $1,250. As part of the update to the Company’s strategic plan for coming years and the decision to reduce the Company’s head count, Mr. Martin Grestel announced his voluntary decision to reduce by 50% the compensation payable to him for his office as Co- Chairman, for a period of one year. The aforementioned reduction became effective on October 1, 2013 and was ended on September 30, 2014. Note that no other changes were made to his terms of office and scope of work as Co-Chairman of the Board of Directors. From the start date of providing Consulting Services to the Company through the date of this report, Mr. Martin Grestel was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers and in conjunction with his fees, 533,000 option warrants exercisable into 533,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date 19, 200,000 $0.10 200,000 Of which: options vested as of the report date 200,000 Fair value NIS 30,294 December 2005 May 1, 2007 333,000 NIS 1.47 333,000 333,000 NIS 240,619 17 Mr. Martin Grestel is also eligible to receive interest payments with respect to the Company’s Series A and Series L Notes which he holds, in conformity with terms and conditions of these notes. (c) Director- Dr. Samuel Morry Blumenfeld Dr. Samuel Morry Blumenfeld has been serving as a director of the Company since 2010, for compensation equal to maximum compensation payable to external director as allowed by regulations 4, 5, and 7 of the External Directors Compensation Regulations. In addition, Dr. Samuel Morry Blumenfeld was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers, 330,000 options exercisable into 330,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date Of which: options vested as of the report date Fair value July 13, 2010 June 17, 2013 300,000 30,000 NIS 2.09 NIS 1.55 300,000 30,000 275,000 NIS 421,507 NIS 27,915 13,125 (d) External director - Ms. Miri Katz Ms. Miri Katz has been serving the Company as external director since 2007, for compensation equal to maximum compensation payable to expert external director as allowed by regulations 4, 5 and 7 of the External Directors Compensation Regulations. In addition, Ms. Miri Katz was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers, 633,000 option warrants exercisable into 633,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date Of which: options vested as of the report date Fair value June 19, 2007 June 17, 2013 333,000 330,000 NIS 1.47 NIS 1.55 333,000 330,000 333,000 NIS 240,859 144,375 NIS 307,068 (e) External director - Ms. Regina Ungar Ms. Regina Ungar has been serving the Company as external director since June 17, 2013, for compensation equal to maximum compensation payable to external directors as allowed by regulations 4, 5, and 7 of the External Directors Compensation Regulations. In addition, Ms. Regina Ungar was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers, 330,000 option warrants exercisable into 330,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date Of which: options vested as of the report date Fair value June 17, 2013 330,000 NIS 1.55 330,000 144,375 NIS 307,068 18 (f) Director - Mr. Ilan Biran Mr. Ilan Biran has been serving the Company as director since January 14, 2014, for compensation equal to maximum compensation payable to external directors as allowed by regulations 4, 5, and 7 of the External Directors Compensation Regulations. In addition, Mr. Ilan Biran was granted, in conformity with the Company’s stock option plan for employees, consultants and service providers, 330,000 options exercisable into 330,000 Company ordinary shares, as follows: Grant date No. of options Exercise price per option warrant Options held as of the report date Of which: options vested as of the report date Fair value January 2014 14, 330,000 NIS 1.58 330,000 96,250 NIS 404,166 (g) Vesting conditions and expiration dates of option warrants Unless otherwise expressly stipulated in the aforementioned description, the vesting and exercise terms of options granted to directors since the Company became a reporting public company are as follows: one quarter of options granted to the grantee shall vest upon the first anniversary of the grant date (the “first portion”). The remaining three quarters of options granted to the grantee shall vest in 36 equal monthly portions over the 36 months following the vesting date of the first portion. After the tenth anniversary of the grant date, all unexercised options shall expire and shall not confer on the grantee any right whatsoever. 9.3. Compensation provided to each of the top five compensated persons listed in Section 9.1 above, from the end of the reported year through the filing date of this report, in conjunction with their office and employment during the reported year, which was not recognized in the financial statements for the reported year: All compensations provided to the top five compensated parties listed in Section 9.1 above after the reported year were recognized on the financial statements for the reported year. 9.4. Interest payments to interested parties of the Company For information about credit facility and loans from interested parties of the Company, see Sections 11.1 below. 9.5. Waiver, indemnification and insurance For details of waiver, indemnification and insurance arrangements for Company officers, see Section 21 below. 10. Regulation 21A - controlling shareholder of the corporation As of March 23, 2014, and following an amendment to the Company’s articles of association in a manner which provides that a majority of the directors in the Company will be external or independent, Medtronic International Technology, Inc. ( “Medtronic” or the “Controlling 19 Shareholder”) owns 19.93% of the Company’s issued and outstanding share capital. Medtronic is considered, for reasons of caution, the sole Controlling Shareholder of the Company for all intents and purposes. For further details, see Paragraph 6 of the immediate report convening the general meeting of the Company’s shareholders, dated September 11, 2014 (reference number: 2014-01- 155808) For more information about holding shares of Medtronic, Dr. Giora Yaron and Mr. Martin Grestel in the Company’s issued share capital and voting rights, see Section 17 below. 11. Regulation 22 – Transactions with the Controlling Shareholder or entity in which the Controlling Shareholder has a personal interest in approving Below is information about transactions with Controlling Shareholders, to the best of the Company’s knowledge: 11.1. Credit facility from interested parties dated 2011 and actual withdrawals made under this credit facility For details of the credit facility agreement from interested parties (including the Controlling Shareholder of the Company) dated 2011 and actual withdrawals made under this credit facility, see Section 24.4 in Part A of this Annual Report. 11.2. Irrevocable undertaking to place a credit facility to the Company – January 2015 For details regarding an irrevocable undertaking to place a credit facility from interested parties (including the Controlling Shareholder) from January 2015, see Section 24.5 of Part A of this Annual Report. 11.3. Consulting Agreements with Dr. Giora Yaron and Mr. Martin Grestel On October 7, 2014, the general meeting of the Company’s shareholders approved, in conformity with provisions of Section 270(4) of the Companies Law, after approval by the Board of Directors and by the Audit Committee, the extension of consulting agreements with Dr. Giora Yaron and Mr. Martin Grestel, Co-chairmen of the Company’s Board of Directors for a term of three years commencing on October 24, 2014 through October 23, 2017. For more information about the consulting agreements with Dr. Giora Yaron and Mr. Martin Grestel, see Sections 9.2(a) and 9.2(b) above, respectively. Medtronic was deemed until October 7, 2014, to have had a personal interest in the agreements with Dr. Giora Yaron and Mr. Martin Grestel. 11.4. Directors and officers (“D&O”) liability insurance policy for the Company On March 18, 2014, the Company Board of Directors approved, in conformity with Section 1b(5) of the Companies Regulations (Relief for Transactions with Interested Parties), 2000, to include in the Company’s D&O liability insurance policy for 2014: (i) Mr. Garry Ellis, a director who is also an officer of Medtronic, which is considered, for the sake of caution, to be the Controlling Shareholder of the Company; (ii) Co-chairmen of the Board of Directors, Dr. Giora Yaron and Mr. Martin Grestel, Medtronic having been considered (on the date of the approval) to have had a personal interest in contracts with them. For more information, see immediate report issued by the Company on March 19, 2014 (reference number: 2014-01-018870), included in this report by way of 20 reference. For more information about terms and conditions of the Company’s D&O liability insurance policy, see details under Regulation 29A below. 11.5. Letters of waiver and indemnification for officers and directors On October 24, 2011, the general meeting of the Company’s shareholders approved a change to the Company’s Bylaws and an update to the Company’s letters of waiver and indemnification, so as to adjust them for Amendment No. 16 to the Companies Law and to new arrangements due to the provisions of the Israeli Securities Authority Enforcement Proceeding Streamlining Law (Legislative Amendments), 2011 (the “Administrative Enforcement Law”) (including the indirect amendment to the Companies Law, as listed in Section 4(11) of the Administrative Enforcement Law). The general meeting of the Company’s shareholders amended on October 7, 2014, a further amendment in the form of the Company’s letters of waiver and indemnification, as detailed in Section 21.2 below. 11.6. Marketing agreement with Medtronic On February 27, 2014, the Board of Directors of the Company, after having received approval from the Company’s Audit Committee, approved the Company’s engagement under a marketing agreement with Medtronic, Inc. (In this Section: “Medtronic Inc.”), which is the parent company of Medtronic, which is considered, for the sake of caution, to be the Controlling Shareholder of the Company, whereby Medtronic Inc. would be the exclusive marketer of the WatchPATTM product to physicians in the U.S. who specialize in Arrhythmia. For more information, see immediate report issued by the Company on March 5, 2014 (reference number: 2014-01-005622). 12. Regulation 24 - Interested parties’ holdings For information about holding shares of interested parties in the Company, to the best of the Company’s knowledge, in the Company’s shares, Series L convertible notes and listed warrants, see immediate report issued by the Company on March 8, 2015 (reference number: 2015-01-045709), included in this report by way of reference. The Company did not commit to sell any shares to any interested party and no interested party committed to purchase any shares from the Company. To the best of the Company’s knowledge, as of the report date, interested parties in the Company hold no shares or other securities of the Company’s subsidiaries. 13. Regulation 24A - Authorized share capital, issued share capital and convertible securities as of March 23, 2015 Securities Quantity Authorized share capital (ordinary shares of NIS 0.01 par value each) 500,000,000 Issued and outstanding share capital (ordinary shares of NIS 0.01 par value each) Series L Notes of NIS 1 par value each, convertible into the Company’s ordinary shares (conversion rate: NIS 1.92 par value notes 180,836,038 NIS 76,255,261 par 21 to one ordinary share of NIS 0.01 par value, subject to adjustments in conformity with terms and conditions of the notes) Employee stock options (not listed for trading) exercisable into the Company’s ordinary shares value 27,463,753 14. Regulation 24B - Registry of shareholders For more information about the registry of shareholders, see immediate report issued by the Company on March 9, 2015 (reference number: 2015-01-046822), incorporated herein by reference. 15. Regulation 26 – Directors of the corporation As of the report date, the Company’s Board of Directors consists of the following directors: Name: ID: Date of Birth: Formal address: Citizenship: Membership of Board committees External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Dr. Giora Yaron8 001707819 August 22, 1948 11 Leshem Street, Caesarea 3088900, Israel Israel Member of the Executive Committee No No Co-Chairman of the Board of Directors9, business advisor to the Company and director of the subsidiary, Itamar Medical Inc. 1997 Bachelor’s degree in Mathematics and Physics, master’s degree in Physics and PhD in Physics all from the Hebrew University of Jerusalem. 8 9 Dr. Giora Yaron has served as director and member of the Compensation Committee of Mercury Interactive Corp. (“Mercury”), a company previously traded on NASDAQ and acquired by HP. Upon said acquisition, Dr. Yaron concluded his term in office with Mercury. Multiple lawsuits have been filed in courts in the USA against Mercury and executives thereof, including Dr. Giora Yaron, with regard to options granted by Mercury in the past. The proceedings on all these lawsuits have yet to be concluded. The implications of these proceedings, should the Court find in favor of the plaintiffs, are monetary only and cannot be estimated at this stage. Furthermore, on September 17, 2008, the SEC (US Securities and Exchange Commission) announced an agreement reached with Mr. Yigal Kochavi, Mr. Yair Shamir and Dr. Giora Yaron - all three previously directors of Mercury. This agreement refers to a complaint by the SEC which alleged that these three directors carelessly approved back-dated option grants and also reviewed and signed off on public reporting which included erroneous, misleading information with regard to option grant by the company and expenses of the company. With no admission or denial of the claims alleged by the SEC, the three directors agreed to pay a monetary fine of $100,000 each in return for dropping the aforementioned charges. For more information see SEC publication at: http://www.sec.gov/litigation/litreleases/2008/lr20724.htm. Dr. Giora Yaron and Mr. Martin Grestel, who serve as Co-chairmen of the Board, have no pre-defined delineation of authority. This is determined on ad-hoc basis. 22 Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: Name: ID: Date of Birth: Formal address: Citizenship: Membership of Board committees External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: Chairman of the Board of Directors of Accent Inc., of Qumranet Inc. and of Yisum Development Company of the Hebrew University of Jerusalem Ltd., Chairman of the Executive Board of the Tel Aviv University; Chairman of the Board of Directors Ramot of Tel Aviv University Ltd. (a company wholly-owned by the Tel Aviv University), member of Board of Trustees, Hebrew University of Jerusalem, director of Amdocs Israel Ltd., Qwilt Inc., Excelero Storage Ltd. and Hyperwise Security and advisor to the Board of Directors of Rafael Advanced Defense Systems Ltd. and to the Israeli Ministry of Defense. None No Mr. Martin Grestel 015425325 June 26, 1941 7 Ethiopia Street, Jerusalem 9514909, Israel U.S. and Israel Member of the Investment Committee and the Executive Committee. No No Co-Chairman of the Board of Directors2, business advisor to the Company and director of the subsidiary, Itamar Medical Inc. 1997 BSc in Science from Yale University, U.S. MBA from Stanford University, U.S. Chairman of the Board of Directors of Compugen Ltd, Evogene Ltd. and Keddem Bioscience Ltd. Director of Yeda Ltd. and Yisum Development Company of the Hebrew University of Jerusalem Ltd. None No 23 Name: U.S. passport number: Date of Birth: Formal address: Citizenship: Membership of Board committees External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: Name: ID: Date of Birth: Formal address: Citizenship: Membership of Board committees External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Mr. Gary L. Ellis 217730582 August 15, 1956 10082 Powers Lake Trail, Woodbury, MN 55129, USA U.S. Member of Investment Committee No No Director of the Company. President and CEO of Medtronic International Technologies, Inc. Executive Vice president and CFO of Medtronic, Inc. 2007 BSc in Accounting from University of South Dakota. CEO and President of Medtronic International Technologies, Inc. Executive Vice President and CFO of Medtronic, Inc. Director of the Toro Company. None No Ms. Miri Katz 050568070 March 5, 1951 18/32 Michael Ne’eman Avenue, Tel Aviv 6958103, Israel Israel Chairperson of the Compensation Committee; member of the Audit Committee, Financial Reporting Committee and Executive Committee. Yes. She has accounting and financial expertise and professional qualifications? Yes Yes External director of the Company 2007 24 Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: External director (with accounting and financial expertise or professional qualifications): Name: ID: Date of Birth: Formal address: Citizenship: Membership of Board committees External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Occupation during previous five years and other corporations served as director: LLB degree from the Hebrew University of Jerusalem. CEO, IMA Foundation, since 2003. From 2008 to July 2014, director of Bank Leumi Le-Israel B.M. Since 2003, CEO of Miri Katz Projects Ltd. Director of Caesarea Development Corporation Edmond Binyamin De Rothschild Ltd. and of Edmond and Nadine De Rothschild Foundation Israel (through 2009) and director of Edmond Binyamin De Rothschild Caesarea Foundation (through 2010). Chairperson of the Israeli Securities Authority (through 2002). None Yes Dr. Samuel Morry Blumenfeld 326904661 December 18, 1937 8 Yair street, Jerusalem 9350338, Israel U.S., Canada and Israel Member of Compensation Committee. No Yes. He has professional qualifications. Director of the Company 2010 Bachelor’s degree in Physics Engineering, master’s degree in Physics Engineering and PhD in Molecular Physics, all from the University of Toronto, Canada. Partner in Meditech Advisors, LLC, Chief Investment Officer in Ziegler Meditech Equity Partners, LP (a VC Fund), President of Quescon Consultants, Ltd. Director in Mako Surgical Corp., Dune Medical Devices Ltd. and Aposense Ltd. None Family relation to another interested party of the Company (if any): Has accounting and financial expertise No 25 with regard to Section 92(a)(12) of the Companies Law: Name: ID: Date of Birth: Formal address: Citizenship: Board committees serving on: External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: Ms. Regina Ungar 058099656 February 26, 1963 82 Marganit Street, Ramat Gan 5258484, Israel Israeli Chairperson of the Audit Committee and of the Financial Reporting Committee, member of the Compensation Committee and the Investment Committee. Yes. She has accounting and financial expertise and professional qualifications. Yes External director of the Company 2013 Bachelor’s degree in Economics and Accounting and MBA both from the Tel Aviv University. Certified Public Accountant (Isr.). 2010 to 2012: CEO of Kaman Holdings Ltd. and of Isal Amlat Investments (1993) Ltd. 2001 to 2010: Deputy CEO and CFO, Shrem Fudim Group Ltd. Through 2010: Senior Finance Executive, Leader Holdings and Investments Ltd . Lecturer in Accounting Audit in the Tel Aviv University. Serves as director of the following corporations: Rafael Advanced Defense Systems Ltd and ZIM Integrated Shipping Services Ltd. None Yes 26 Name: ID: Date of Birth: Formal address: Citizenship: Board committees serving on: External director (with accounting and financial expertise or professional qualifications): Independent director: Position with the Company, subsidiary or associated company of the Company or of an interested party thereof: Start of term as director Education: Occupation during previous five years and other corporations served as director: Family relation to another interested party of the Company (if any): Mr. Ilan Biran 006900997 October 3, 1946 40/14 Shai Agnon Street, Tel Aviv 6936236, Israel Israel Member of Audit Committee, Balance Sheet Committee and Investment Committee Member of the Audit Committee, of the Financial Reporting Committee and the Investment Committee. No Yes. He has accounting and financial expertise. No May 29, 2013 Bachelor’s degree in Economics and Business Administration from the Bar Ilan University. Master’s degree in Strategic and Economic Studies, Georgetown University, Washington, DC, U.S. June 2007 – May 2013: Chairman, Rafael Advanced Defense Systems Ltd. Since October 2008: director, Israel Discount Bank Ltd. From July 2003 to 2014: Chairman of Centrition Ltd. Since 2009: Chairman, Executive Board of Kinneret Academic College, Jordan Valley (Registered NGO) January 2011 – October 2012: Chairman, Sync-RX Ltd. 2004 – November 2008: director, Delta Three Israel Ltd. 2005 – December 2009: Venture Partner advisor, Etgar Venture Capital Fund, Limited Partnership No Has accounting and financial expertise with regard to Section 92(a)(12) of the Companies Law: No 27 16. Regulation 26a - Senior officers Senior officers of the Company are: Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Mr. Gilad Glick 025041807 January 3, 1973 July 1, 2013 President and CEO Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: MBA from Maastricht School of Management, Netherlands. February 2012 - June 2013: VP, Sales and International Marketing with Johnson & Johnson, Cardiovascular Division. 2009-2012 - Johnson & Johnson, Cardiovascular Division. 2008-2009 - Project Manager, Navigation system, Johnson & Johnson, Cardiovascular Division. Company’s President and CEO No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Mr. Shaul Sharoni 028466712 March 25, 1971 July 4, 2004 CFO Director of Itamar Medical Inc. Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: 28 Bachelor’s degree in Economics and Accounting from the Rupin College, Israel. MBA (Finance) from the Bar Ilan University. Certified Public Accountant (Isr. And U.S.). Company’s CFO No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Education: Occupation during previous five years: Mr. Shlomo Ayanot 053915518 January 12, 1956 July 1, 1999 VP, Engineering and Operations BSc in Industrial and Economic Management from the Technion, Israel Institute of Technology. VP, Engineering and Operations of the Company. Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Dr. Koby Sheffy 051243426 August 29, 1952 January 15, 1997 EVP and CTO Education: = Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: 29 BSc in Electronics Engineering from the Technion, Israel Institute of Technology. PhD in Bio-Medical Engineering and Breathing Physiology from Oxford University, UK. EVP, R&D and CTO with the Company. No No Mr. Eldad Singer 023907538 September 28, 1968 February 9, 2011 VP, Sales Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: Bachelor’s degree in Business Administration (Marketing and Financing) from the College of Management Academic Studies, Tel Aviv, Israel. Master’s degree in International Business Administration from the College of Management Academic Studies, Rishon LeZion, Israel. Since 2011, the Company’s VP, Sales. From 2003 to 2007 - Partner, Startwise Capital. No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Ms. Efrat Litman 025412024 July 26, 1973 March 22, 2011 VP, R&D Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent Company: signatory the for BSc in Physics and Mathematics from the Hebrew University of Jerusalem (Talpiot Program). Since 2011, the Company’s VP, R&D From 2009 to 2011, Manager of R&D in the Company. From 2008 to 2009, EndoPAT Project Manager in the Company. No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company Mr. Ira Prigat 024143430 July 31, 1969 November 15, 2014 President of Itamar Medical Japan Co. Ltd. 30 or of an interested party there of: Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: Bachelor’s degree in Social Sciences and bachelor’s degree from the faculty of East Asian Studies both from the Hebrew University of Jerusalem From November 2009 to November 2014, President and CEO of Light Instruments Ltd. (Syneron Dental Laser) No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Ms. Dafna Katz 013357165 March 12, 1966 March 1, 2015 VP, Global Marketing Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent Company: signatory the for Bachelor’s and master’s degrees in Chemistry from the Technion, Israel Institute of Technology VP Marketing at Syneron Medical Ltd. No No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Mr. Shahar Cohen 033472929 November 13, 1976 May 6, 2007 Controller Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer 31 Bachelor’s degree in Economics and Accounting and MBA (Finance) both from the Tel Aviv University. Certified Public Accountant (Isr.). Since 2007: Company Comptroller. No or interested party of the Company (if any): Independent signatory for the Company: No Name: ID: Date of Birth: Start of term in office: Position with the Company, subsidiary or associated company of the Company or of an interested party there of: Education: Occupation during previous five years: Interested party of the Company or family member of another senior officer or interested party of the Company (if any): Independent signatory for the Company: Mr. Doron Cohen 028015592 October 10, 1970 July 6, 2007 Internal Auditor of the Company. Certified Public Accountant (Isr.)., Licensed Internal Auditor. Bachelor’s degree in Business Administration (Accounting) from the College of Management Academic Studies, Rishon LeZion, Isreal. Partner, Fahn Kanne Control Management Ltd. Internal Auditor of multiple companies. No No 17. Regulation 26b - Authorized signatories of the corporation The Company has no independent authorized signatories as defined in Section 37(d) of the Securities Law, 1968. 18. Regulation 27 – Independent Auditor of the corporation Somekh Chaikin, CPAs of 17 Ha’Arbaa Street, Millennium Tower, Tel Aviv. 19. Regulation 28 - Changes to Articles of Incorporation or to Bylaws The shareholders’ general meeting of the Company approved on October 7, 2014, an amendment to the Company’s articles of association (bylaws) whereby: (a) it will determine that a majority of the directors holding office in the Company at any given time will be external and independent directors; (b) the staggered board mechanism will be cancelled for selecting other than external or independent directors; (c) increase of the Company’s registered share capital from 250,000,000 shares of NIS 0.01 par value each to 500,000,000 shares of NIS 0.01 par value each. For further details, see the Company’s report of September 1, 2014 (ref. no. 2014-01-149151). 20. Regulation 29 - Recommendations and decisions by directors 20.1. Directors’ recommendations to the general meeting and resolutions not requiring approval by the shareholders ‘general meeting The recommendations of the Board of Directors to the general meeting of the Company’s shareholders were adopted in full at the meeting that took place on October 7, 2014. For further details, see the notice convening the annual and special general meeting that was 32 published by the Company on September 1, 2014, as well as the Company’s immediate report in respect of the results of the meeting dated October 7, 2014 (reference numbers 2014-01-149151 and 2014-01-173547, respectively). 20.2. Resolutions by the general meeting made other than in accordance with the recommendations by the directors on the issues set forth in section 20.1 above None . 20.3. Resolutions adopted by a special general meeting in the year of the report A meeting of the Company’s shareholders was convened on October 7, 2014 (the “Meeting”). The following business was approved by the Meeting: (a) approval of the extension of the engagement under a consulting agreement with Dr. Giora Yaron (Co- chairman of the Board of Directors), for a term of three years; (b) approval of the extension of the engagement under a consulting agreement with Mr. Martin Grestel (Co- chairman of the Board of Directors), for a term of three years; (c) approving the amended form of the indemnification letters to directors and officers of the Company, not being deemed to be controlling shareholders or controlling shareholders of the Company having a personal interest in the grant thereof; (d) approval of the amendment of the form of the indemnification letters to directors in whom the controlling shareholders of the Company have a personal interest in entering into an agreement with them; (e) approval of the review of the indemnification letters to directors with whom the Controlling Shareholder of the Company has a personal interest in contracting; (f) approving the amendment of the articles of association of the Company in relation to the composition of the Board of Directors; (g) approving the reappointment of two of the current directors of the Company, Mr. Ilan Biran and Dr. Samuel Morry Blumenfeld, as independent directors of the Company for a term of office of three years; (h) approving the amendment of the articles of association of the Company in connection with the increase of the registered share capital so that the registered share capital of the Company increased from 250,000,000 ordinary shares of NIS 0.01 each to 500,000,000 ordinary shares of NIS 0.01 each; (i) approving the re-appointment of two of the currentdirectors of the Company, not being external or independent directors, Mr. Gary Ellis and Mr. Martin Grestel as directors of the Company; (j) approving the reappointment of the Somekh Chaikin, Certified Public Accountants (Isr.) as the Company’s indepemdednt auditors for the year ended December 31, 2014 and authorizing the Board of Directors to determine their compensation. For further details, see the report convening the annual and special general meeting that was published by the Company on September 1, 2014 as well as the immediate report of the Company in respect of the results of the meeting, dated October 7, 2014 (reference numbers 2014-01-149151 and 2014-01-173547, respectively). 21. Regulation 29A- Corporate resolutions 21.1. Waiver In accordance with the resolution of the Company’s Board of Directors dated February 21, 2007 and the resolution of the general meeting of Company’s shareholders dated October 24, 2011, the Company provides to its officers, as they may be from time to time, an advance waiver, subject to provisions of the Israeli Companies Law, waiving any liability towards the Company for any damage incurred by the Company as a result of 33 breach of the due care duty by an officer towards the Company, in the course of discharging their office as an officer of the Company, provided they have acted in good faith. Such waiver would not apply to the liability of an officer who serves the Company as director due to any breach of the duty of care partitioned, as defined in the Companies Law. For more information, see immediate report convening the general meeting of the Company’s shareholders, dated September 15, 2011 (reference number: 2011-01- 276255). Pursuant to the resolution of the Company’s Board of Directors of July 14, 2014, and the resolution of the general meeting of the Company’s shareholders of October 7, 2014, the indemnity letters for the officers of the Company were amended in a manner whereby no advance waiver from liability will be included for officers by reason of breach of the duty of care to the Company. For further details, see the report convening the annual and special general meeting that was published by the Company on September 1, 2014, as well as the immediate report of the Company in respect of the results of the meeting of October 7, 2014 (reference numbers: 2014-01-149151 and 2014-01-173547, respectively). 21.2. Indemnification Form of the indemnification letters until October 7, 2014 21.2.1. In conformity with the resolution by the Company’s Board of Directors dated February 21, 2007 and the resolution by the general meeting of the Company’s shareholders dated October 24, 2011, the Company provides to its directors and officers (In this Section “officers”), as they may be from time to time, a commitment to indemnify the Company officers for any indebtedness or expense, as described below, incurred by them as a result of any action taken in the course of discharging their office as an officer with the Company or with another company, at the Company’s request: 21.2.1.1. Financial liability imposed upon the officer to benefit another person by Court verdict, including a verdict handed down by compromise or by arbitration and ratified by a Court of Law, provided that the commitment to indemnify such financial liability would be limited to the amount specified in Section 21.2.2 and as revised in Section 21.2.8 below and to events listed in Section 21.2.6 below. 21.2.1.2. Reasonable litigation expenses, including attorney fees, incurred by the officer or imposed on him by a Court of Law, in a proceedings filed against him by the Company or by the other company or on its behalf or by another person or by criminal indictment of which he is found not guilty or by criminal indictment of which he is found guilty of a felony not requiring proof of criminal intent or in conjunction with any monetary sanction. 21.2.1.3. Reasonable litigation expenses, including legal fees, incurred by the officer subsequent to investigation or proceeding conducted against him by an authorized entity to conduct such investigation or proceedings, and which has ended with no indictment against him (as defined in the Companies Law) and with no financial liability imposed on him in lieu of criminal proceedings (as defined in the Companies 34 Law), or which has ended with no indictment against him but with financial liability imposed on him in lieu of criminal proceedings in a felony not requiring proof of criminal intent. 21.2.1.4. Payment to parties impacted by a breach, pursuant to section 52.54(a)(1)(a) of the Israeli Securities Law, 1968 (In this Section: the “Securities Law”). “Administrative proceeding” - a proceeding pursuant to Chapter H3 (Monetary Sanction Imposed by the Israeli Securities Authority), Chapter H4 the Administrative Enforcement Committee) or Chapter I1 (Arrangement for Avoidance or Discontinuation of Proceedings, Contingent on Terms) of the Securities Law. (Administrative Enforcement Imposed by 21.2.1.5. Expenses, including reasonable litigation expenses and legal fees, incurred by the officer with regard to an administrative proceeding (as defined above) concerning them. 21.2.2. The indemnification amount is limited, for a single set of events, to 25% of the the Company’s most recent Company’s shareholders equity based on consolidated financial statements published prior to the indemnification date. 21.2.3. Should the total amounts of financial indebtedness imposed on officers and/or of legal expenses incurred by officers, at any given time, for which they are entitled to indemnification pursuant to the letter of indemnification, on any matter subject to indemnification, exceed the total indemnification amount or the balance of the total indemnification amount available at that time, then the total indemnification amount (or the balance there of, as the case may be) would be divided among the relevant officers, such that the indemnification amount actually payable to each of them would be calculated pro-rata to the amount each officer is eligible to receive divided by total amounts all officers are eligible to receive with respect to said matter. 21.2.4. The commitment to indemnify shall be valid for proceedings brought against the officer in the course of his term in office, as well as for proceedings brought against him after conclusion of its term in office, provided they refer to actions taken by the officer in the course of his term in office, directly or indirectly, in the course of or as a result of its being an officer of the Company. 21.2.5. Should the officers be indemnified by the insurer, under a D&O liability insurance policy obtained by the Company, with respect to the matter at hand subject to indemnification, the Company shall provide indemnification equal to the difference between the amount of the financial liability imposed on the officers, including legal expenses, and the amount received from the insurer with respect to said matter, provided that the indemnification amount charged to the Company shall not exceed the total indemnification amount. 21.2.6. The officer shall be eligible for indemnification for any deed or omission with regard to any of the following: issuance of securities to private investors including, notwithstanding the generality of the foregoing, offering of securities to the public pursuant to a prospectus; any transaction as defined in Section 1 of 35 the Companies Law, including negotiations of any transaction, transfer, sale, acquisition or pledging of assets or liabilities (including securities), or the granting or receiving of any rights thereto, borrowing and providing collateral and any other action involved, directly or indirectly, in such a transaction; any report or notice issued pursuant to the Companies Law or the Securities Law, including regulations based thereupon, or pursuant to rules or regulations in effect on the stock exchange in Israel or overseas, or the laws of any other country governing such matters and/or avoidance of issuing such a report of notice; any decision with regard to any distribution, as defined in the Companies Law; any restructuring or reorganization of the Company or any decision with regard thereto, including, notwithstanding the generality of the foregoing, any merger, spin-off, arrangement between the Company and shareholders thereof, incorporation, dissolution or sale of any subsidiaries; allocation or distribution; any expression, including statement of position or opinion made in good faith by the officer in the course of his office and pursuant thereto, including at meetings of the Board of Directors or any committee thereof; Any action in contravention of the Company Bylaws or Articles of Association; any decision or action with regard to employment relations, including negotiations, contracting and implementation of individual employment agreements or collective bargaining agreements, employee benefits, terms of employment and work, including allotment of securities to employees; any action taken (or allegedly taken) in conjunction with the Company’s policy, whether or not made public; obtaining or receiving any loan and any other agreement or transaction; participation in tenders; any action taken in conjunction with the Company’s licenses; formulation of work plans including pricing, marketing, distribution, instructions to employees, customers and suppliers and any cooperation with any third party; any report or notice issued on behalf of the Company pursuant to the Companies Law and/or any other statutory provisions, in Israel or overseas; any action involved in obtaining permits and licenses from any authority; any inquiry conducted by any authority; class action lawsuits, including lawsuits concerning violation of environmental protection laws, consumer protection laws or any other lawsuit in conjunction with discharging his office; any other claim expected by companies of the same type as the Company, which the Board of Directors would deem appropriate; events related to work safety and work-related injury; negotiation, signing and execution of insurance policies; any claim or demand made by any customer, supplier, party to any agreement or any third party, arising from an agreement with the Company, in the normal course of business; any act which may be considered a breach of intellectual property rights of any third party; any claim or demand made by any third party who received bodily injury or damage to business or personal property, including loss of use thereof, in the course of any deed or omission attributed to the Company or, respectively, to its employees, agents or others who act or claim to act on behalf of the Company; any demand or claim pursuant to Securities Laws with regard to disclosure of information or how information is disclosed, or disclosure of incomplete information to shareholders or to holders of securities, including any action involved in allotment of securities to the public or by way of private placement, in Israel or overseas, including all details included on documents related to such allotment; any type of event listed above, with regard to the officer’s term in office on behalf of the Company as officer of subsidiaries / associated companies of the Company; as 36 well as any event or action which may be indemnified pursuant to the Administrative Enforcement Law. 21.2.7. For more information, see immediate report convening the general meeting of the Company’s shareholders, dated September 15, 2011 (reference number: 2011-01-276255). Form of the indemnification letters from October 7, 2014 onwards 21.2.8. In conformity with the decision of the Company’s Board of Directors of July 14, 2014 and the decision of the general meeting of the Company’s shareholders of October 7, 2014, the indemnification letters for officers of the Company, not deemed to be controlling shareholders of the Company and/or those in whom the controlling shareholder has no personal interest in granting the same, were amended as set out below: (i) adjusting the maximum amount of the indemnification in a manner whereby the liability to indemnify in advance will be the sum of NIS 15 million; (ii) liability towards any officer to whom an indemnification letter will be granted, that for the seven years following the termination of his office, the Company will continue to acquire on his behalf a D&O liability insurance policy in order not to leave the officers exposed to claims after the conclusion of their term of office in the Company; and (iii) cancellation of the waiver clause of officers in advance from their responsibility by reason of breach of the duty of care towards the Company. For further details, see the report convening the annual and special general meeting dated September 1, 2014, and the immediate report of the Company in respect of the results of the meeting of October 7, 2014 (reference numbers: 2014-01-149151 and 2014-01-173547, respectively). 21.3. Insurance An extraordinary general meeting of the Company’s shareholders, held on January 14, 2014, resolved, amongst others, to approve the Company’s compensation policy. The Company’s compensation policy includes, amongst others, provisions with regard to terms and conditions for renewal of D&O liability insurance policy, as follows: (i) maximum insurance coverage of the insurance policy not to exceed $50 million per claim and on aggregate for the insurance period; (ii) annual insurance premium not to exceed $100,000 (the “maximum insurance premium”); (iii) the Company’s Compensation Committee and Board of Directors will approve annually the Company’s contracting of a new insurance policy in compliance with the aforementioned terms and conditions; (iv) the insurance policy shall also cover the liability of directors and officers considered to be controlling shareholders of the Company or relatives thereof, from time to time, provided that terms of their coverage shall not exceed those of all other directors or officers of the Company. For more information, see immediate report issued by the Company on January 8, 2014 (reference number: 2014-01-009652). On March 18, 2014, the Company’s Board of Directors approved, as required in conformity with the compensation policy, after accepting the recommendations made by the Company’s Compensation Committee, renewal by the Company of the existing directors’ and officers’ liability insurance policy, for the Company and subsidiaries thereof, in conformity with sections 1A1, 1B and 1B1 of the Companies Regulations (Relief for Transactions with Interested Parties), 2000. It should be noted that the terms 37 and conditions of the insurance policy are in conformity with those set forth in the compensation policy, as follows: (i) liability limit of up to $20 million per insurance case and on aggregate for the insurance period; (ii) the insurance policy covers the Company’s CEO as well as directors considered to be controlling shareholders or those where the controlling shareholders have a personal interest in contracting there with; (iii) the insurance period is through April 30, 2015; (iv) the annual premium payable for the insurance policy does not exceed the maximum insurance premium. For more information, see immediate report issued by the Company on March 19, 2014 (reference number: 2014-01-018870), included in this report by way of reference. * * 38 ITAMAR MEDICAL LTD. PART E Chief Executive Officer’s Certification according to Regulation 9b(d)(1) I, Gilad Glick, certify that: (1) I have reviewed the periodic report of Itamar Medical Ltd. (the “Company”) for the year ended December 31, 2014 (the “Reports”); (2) Based on my knowledge, the Reports do not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements contained therein, in light of the circumstances under which such statements were included, not misleading with respect to the periods covered by the Reports; (3) Based on my knowledge, the financial statements and other financial information included in the Reports fairly represent in all material respects, the financial condition, results of operations and cash flows of the Company as of, and for, the periods reported in the Reports; (4) I have disclosed, to the Company’s Independent Auditor, the Board of Directors and the Audit Committee of the Board of Directors of the Company any fraud, whether or not material, that involves the Chief executive Officer or persons directly subordinate to him, or involve other employees who have a significant role in the Company’s internal controls over financial reporting and disclosure. Nothing stated above detracts from my responsibility or that of any other person, under any law. March 23, 2015 ___________________ Gilad Glick Chief Executive Officer Chief Financial Officer’s Certification according to Regulation 9b(d) (2) I, Shaul Sharoni, certify that: (1) I have reviewed the periodic report of Itamar Medical Ltd. (the “Company”) for the year ended December 31, 2014 (the “Reports”); (2) Based on my knowledge, the Reports do not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements contained therein, in light of the circumstances under which such statements were included, not misleading with respect to the periods covered by the Reports; (3) Based on my knowledge, the financial statements and other financial information included in the Reports fairly represent in all material respects, the financial condition, results of operations and cash flows of the Company as of, and for, the periods reported in the Reports; (4) I have disclosed, to the Company’s Independent Auditor, the Board of Directors and the Audit Committee of the Board of Directors of the Company any fraud, whether or not material, that involves the Chief executive Officer or persons directly subordinate to him, or involve other employees who have a significant role in the Company’s internal controls over financial reporting and disclosure. Nothing stated above detracts from my responsibility or that of any other person, under any law. March 23, 2015 ___________________ Shaul Sharoni Chief Financial Officer 

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