exhibit_99-1.htm

EX-99.1 2 exhibit_99-1.htm EXHIBIT 99.1 exhibit_99-1.htm

Exhibit 99.1

Silicom Ltd.

and its Subsidiaries

Consolidated

Financial Statements

As of and for the year ended

December 31, 2015

Silicom Ltd. and its Subsidiaries

Consolidated Financial Statements as of December 31, 2015

Contents

		Page

Report of Independent Registered Public Accounting Firm		F - 3

Consolidated Balance Sheets		F - 4

Consolidated Statements of Operations		F - 6

Consolidated Statements of Changes in Shareholders’ Equity		F - 7

Consolidated Statements of Cash Flows		F - 8

Notes to the Consolidated Financial Statements		F - 9

F - 2

Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders

of Silicom Ltd.:

We have audited the accompanying consolidated balance sheets of Silicom Ltd. and subsidiaries (hereinafter - “the Company”) as of December 31, 2014 and 2015 and the related consolidated statements of operations, changes in shareholders’ equity and cash flows for each of the years in the three-year period ended December 31, 2015. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2014 and 2015, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2015, in conformity with U.S. generally accepted accounting principles.

Somekh Chaikin

Certified Public Accountants (Isr.)

Member Firm of KPMG International

Tel Aviv, Israel

March 21, 2016

F - 3

Silicom Ltd. and its Subsidiaries

Consolidated Balance Sheets as of December 31

		2014		2015
	Note	US$ thousands		US$ thousands

Assets

Current assets
Cash and cash equivalents	4		17,890		18,178
Short-term bank deposits	2F		4,000		-
Marketable securities	2G, 5		15,167		8,636
Accounts receivable:
Trade, net	2H		18,441		23,295
Other			1,632		1,380
Related parties			390		473
Inventories	6		25,449		26,321
Deferred tax assets	14G		567		950

Total current assets			83,536		79,233

Marketable securities	2G, 5		20,358		24,246

Assets held for employees' severance benefits	9		1,425		1,374

Deferred tax assets	14G		346		595

Property, plant and equipment ("PPE"), net	7		2,458		3,825

Intangible assets, net	8B		2,071		5,164

Goodwill	8A		12,242		25,561

Total assets			122,436		139,998


Avi Eizenman	Shaike Orbach	Eran Gilad
Chairman of the Board of Directors	Chief Executive Officer	Chief Financial Officer

Kfar-Saba, Israel

March 21, 2016

The accompanying notes are an integral part of these consolidated financial statements.

F - 4

Silicom Ltd. and its Subsidiaries

Consolidated Balance Sheets as of December 31 (Continued)

		2014			2015
	Note	US$ thousands			US$ thousands


Liabilities and shareholders' equity

Current liabilities
Trade accounts payable			8,216			8,544
Other accounts payable and accrued expenses			5,783			11,147
Contingent consideration	3		4,728			-
Related parties			20			12
Deferred tax liabilities	14G		259			111

Total current liabilities			19,006			19,814

Long-term liabilities
Contingent consideration	3		-			4,942
Liability for employees' severance benefits	9		2,414			2,251
Deferred tax liabilities	14G		284			157

Total liabilities			21,704			27,164

Commitments and contingencies	10

Shareholders' equity	11
Ordinary shares, ILS 0.01 par value; 10,000,000 shares
authorized; 7,233,604 and 7,299,315 issued as at
December 31, 2014 and 2015, respectively;
7,218,633 and 7,284,344 outstanding as at
December 31, 2014 and 2015, respectively			21			21
Additional paid-in capital			41,245			44,101
Treasury shares (at cost) - 14,971 ordinary shares as at
December 31, 2014 and 2015			(38	)		(38	)
Retained earnings			59,504			68,750

Total shareholders' equity			100,732			112,834

Total liabilities and shareholders’ equity			122,436			139,998

The accompanying notes are an integral part of these consolidated financial statements.

F - 5

Silicom Ltd. and its Subsidiaries

Consolidated Statements of Operations for the Year Ended December 31

		2013		2014		2015
		US$ thousands
	Note	Except for share and per share data

Sales*	12		73,298		75,622		82,738
Cost of sales			43,865		44,835		48,659

Gross profit			29,433		30,787		34,079

Operating expenses
Research and development**			5,465		6,480		9,702
Sales and marketing			3,818		4,418		5,651
General and administrative			2,572		2,798		3,611
Contingent consideration expense (benefit)	3		-		45		(3,090	)

Total operating expenses			11,855		13,741		15,874

Operating income			17,578		17,046		18,205
Financial income, net	13		404		263		220

Income before income taxes			17,982		17,309		18,425

Income taxes	14		905		2,704		1,905

Net income			17,077		14,605		16,520

Income per share:
Basic income per ordinary share (US$)	2T		2.404		2.033		2.273

Diluted income per ordinary share (US$)			2.357		1.996		2.242

Weighted average number of ordinary
shares used to compute basic income
per share (in thousands)			7,103		7,184		7,269

Weighted average number of ordinary
shares used to compute diluted income
per share (in thousands)			7,246		7,319		7,368

* Including sales to related parties in the amount of US$ 851 thousand, US$ 1,041 thousand and US$ 1,154 thousand in 2013, 2014 and 2015, respectively.

** Including services from related parties in the amount of US$ 133 thousand, US$ 243 thousand and US$ 285 thousand in 2013, 2014 and 2015, respectively.

The accompanying notes are an integral part of these consolidated financial statements.

F - 6

Silicom Ltd. and its Subsidiaries

Consolidated Statements of Changes in Shareholders' Equity

	Ordinary shares				Additional paid-in capital		Treasury shares			Retained earnings			Total shareholders’ equity
	Number of shares(1)		US$ thousands

Balance at
January 1, 2013		7,007,426		21		36,065		(38	)		38,918			74,966

Exercise of options		132,587		*-		1,893		-			-			1,893
Share-based compensation		-		-		668		-			-			668
Dividend (US $0.55 per share)		-		-		-		-			(3,913	)		(3,913	)
Net income		-		-		-		-			17,077			17,077

Balance at
December 31, 2013		7,140,013		21		38,626		(38	)		52,082			90,691

Exercise of options		78,620		*-		1,353		-			-			1,353
Share-based compensation		-		-		1,266		-			-			1,266
Dividend (US $1.00 per share)		-		-		-		-			(7,183	)		(7,183	)
Net income		-		-		-		-			14,605			14,605

Balance at
December 31, 2014		7,218,633		21		41,245		(38	)		59,504			100,732

Exercise of options and RSUs(2)		65,711		*-		943		-			-			943
Share-based compensation		-		-		1,913		-			-			1,913
Dividend (US $1.00 per share)		-		-		-		-			(7,274	)		(7,274	)
Net income		-		-		-		-			16,520			16,520

Balance at
December 31, 2015		7,284,344		21		44,101		(38	)		68,750			112,834

(1)

Net of 14,971 shares held by Silicom Inc.

(2)

Restricted share units (hereinafter - "RSUs")

Less than 1 thousand.

The accompanying notes are an integral part of these consolidated financial statements.

F - 7

Silicom Ltd. and its Subsidiaries

Consolidated Statements of Cash Flows for the Year Ended December 31

	2013			2014			2015
	US$ thousands
Cash flows from operating activities
Net income		17,077			14,605			16,520

Adjustments required to reconcile net income to
net cash provided by operating activities:
Depreciation and amortization		659			996			2,767
Write-down of obsolete inventory		1,926			1,029			219
Liability for employees' severance benefits, net		174			(86	)		(112	)
Discount on marketable securities, net		729			758			561
Share-based compensation expense		668			1,266			1,998
Deferred taxes		(552	)		(219	)		(907	)
Capital (gain) loss		1			-			(3	)
Changes in assets and liabilities:
Accounts receivable - trade		(2,322	)		(3,248	)		(4,850	)
Accounts receivable - other		(114	)		188			127
Accounts receivable - related parties		(139	)		(6	)		(83	)
Inventories		(15,909	)		3,416			(939	)
Trade accounts payable		(1,474	)		1,321			234
Other accounts payable and accrued expenses		1,220			649			853
Contingent consideration adjustments		-			45			(3,090	)
Accounts payable - related parties		(26	)		(30	)		(8	)
Net cash provided by operating activities		1,918			20,684			13,287

Cash flows from investing activities
Proceeds from (investments in) short term bank deposits, net		(473	)		(1,000	)		4,000
Sale of property, plant and equipment		-			-			19
Purchase of property, plant and equipment		(822	)		(1,858	)		(2,984	)
Investment in intangible assets		(100	)		(100	)		-
Proceeds from maturity of marketable securities		12,500			14,750			15,100
Purchases of marketable securities		(11,384	)		(11,740	)		(12,935	)
Business acquisition, net of acquired cash (see Note 3)		-			(10,048	)		(10,000	)
Net cash used in investing activities		(279	)		(9,996	)		(6,800	)

Cash flows from financing activities
Exercise of options		1,893			1,353			943
Dividend		(3,913	)		(7,183	)		(7,274	)
Net cash used in financing activities		(2,020	)		(5,830	)		(6,331	)

Effect of exchange rate changes on cash balances held		72			35			132

Increase (decrease) in cash and cash equivalents		(309	)		4,893			288

Cash and cash equivalents at beginning of year		13,306			12,997			17,890
Cash and cash equivalents at end of year		12,997			17,890			18,178

Supplementary cash flow information
A. Non-cash transactions:
Investments in PPE and intangible assets		207			87			72
B. Cash paid during the year for:
Income taxes		2,154			1,277			4,487

The accompanying notes are an integral part of these consolidated financial statements.

F - 8

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 1 - General

Silicom Ltd. is an Israeli corporation engaged in designing, manufacturing, marketing and supporting high performance networking and data infrastructure solutions for a broad range of servers, server based systems and communications devices.

The Company’s shares have been traded in the United States on the National Association of Securities Dealers Automated Quotation System ("NASDAQ”) since February 1994. Since January 2, 2014 the Company's shares have been traded on the NASDAQ Global Select Market (prior thereto they were traded on the NASDAQ Global Market). The Company’s shares had been traded in Israel on the Tel Aviv Stock Exchange ("TASE"), since December 2005. Since June 16, 2013 the Company's shares had been included in the Tel-Aviv 100 Index. In January 28, 2016, the Company delisted from trading in the TASE.

Silicom markets its products directly, through Original Equipment Manufacturers (“OEMs”) which sell the Company’s connectivity products under their own private labels or incorporate the Company’s products into their products.

In these financial statements the terms "Company" or "Silicom" refer to Silicom Ltd. and its wholly owned subsidiaries, Silicom Connectivity Solutions, Inc. (hereinafter - "Silicom Inc.") and Fiberblaze A/S, (hereinafter - "Fiberblaze"), whereas the term "subsidiaries" refers to Silicom Inc. and Fiberblaze.

Note 2 - Summary of Significant Accounting Policies

The significant accounting policies, which are applied consistently throughout the periods presented, are as follows:

Financial statements in US dollars

Substantially all sales of the Company are made outside of Israel (see Note 12A regarding geographical distribution), in US dollars ("dollars"). Most purchases of materials and components, and a significant part of the marketing costs are made or incurred, primarily in dollars. Therefore, the functional currency of the Company is the dollar.

Transactions and monetary balances in other currencies are translated into the functional currency using the current exchange rate.

All exchange gains and losses from remeasurement of monetary balance sheet items denominated in non-dollar currencies are reflected in earnings when they arise.

F - 9

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Basis of presentation

The accompanying consolidated financial statements have been prepared with accounting principles generally accepted in the United States of America and include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Estimates and assumptions

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant items subject to such estimates and assumptions include the useful lives of PPE, deferred tax assets, inventory, investments, goodwill, intangible assets, share-based compensation and other contingencies.

Business combinations

The Company accounts for business combination in accordance with ASC No. 805, "Business Combinations". ASC No. 805 requires recognition of assets acquired and liabilities assumed at the acquisition date, measured at their fair values as of that date. Any excess of the fair value of net assets acquired over purchase price and any subsequent changes in estimated contingencies are to be recorded in the consolidated statements of operations.

Cash and cash equivalents

The Company considers highly liquid investments with original maturities of three months or less from the date of deposit to be cash equivalents.

Short-term bank deposits

Short term bank deposits consist of bank deposits with original maturities of more than three months and up to twelve months.

Marketable securities

The Company classifies its marketable securities as held-to-maturity as they are debt securities in which the Company has the intent and ability to hold to maturity. Held-to-maturity (HTM) debt securities are recorded at amortized cost adjusted for the amortization or accretion of premiums or discounts.

Premiums and discounts on debt securities are amortized or accreted over the life of the related held-to-maturity security as an adjustment to yield using the effective interest method.

F - 10

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Marketable securities (cont’d)

Such amortization and accretion is included in the "Financial income, net" line item in the consolidated statements of operations.

When other-than-temporary impairment has occurred, the amount of the other-than-temporary impairment recognized in earnings depends on whether the Company intends to sell the security or it is more likely than not that it will be required to sell the security before recovery of its amortized cost basis less any current-period credit loss.

A decline in the market value of HTM security below cost that is deemed to be other than temporary results in an impairment to reduce the carrying amount to fair value. To determine whether an impairment is other than temporary, the Company considers all available information relevant to the collectibility of the security, including past events, current conditions, and reasonable and supportable forecasts when developing estimate of cash flows expected to be collected. Evidence considered in this assessment includes the reasons for the impairment, the severity and duration of the impairment, changes in value subsequent to year end, forecasted performance of the investee, and the general market condition in the geographic area or industry the investee operates in.

If the Company intends to sell the security or it is more likely than not will be required to sell the security before recovery of its amortized cost basis less any current-period credit loss, the other-than-temporary impairment is recognized in earnings equal to the entire difference between the investment’s amortized cost basis and its fair value at the balance sheet date. If the Company does not intend to sell the security and it is not more likely than not that the Company will be required to sell the security before recovery of its amortized cost basis less any current-period credit loss, the other-than-temporary impairment is separated into the amount representing the credit loss and the amount related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings.

Trade accounts receivable, net

Trade accounts receivable are recorded at the invoiced amount and do not bear interest. Amounts collected on trade accounts receivable are included in net cash provided by operating activities in the consolidated statements of cash flows. The Company maintains an allowance for doubtful accounts for estimated losses inherent in its accounts receivable portfolio. In establishing the required allowance, management considers historical losses adjusted to take into account current market conditions and its customers’ financial condition, the amount of receivables in dispute, and the current receivables aging and current payment patterns.

As of December 31, 2014 and 2015, the provision for doubtful accounts receivable amounted to US$ 20 thousand.

Inventories

Inventories are stated at the lower of cost or market. Cost is determined using the "weighted average-cost" method. The Company writes down obsolete or slow moving inventory to its market value, on a quarterly basis.

F - 11

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Assets held for employees’ severance benefits

Assets held for employees’ severance benefits represent contributions to severance pay funds and cash surrender value of insurance policies. The assets are recorded at their current cash redemption value.

Property, plant and equipment

Property, plant and equipment are stated at cost, net of accumulated depreciation. Depreciation is calculated on the straight-line basis over the estimated useful life of the assets at the following annual rates:

	%
Machinery and equipment		15 - 33
Office furniture and equipment		6 - 33
Leasehold improvements		10 - 20

Goodwill and other intangible assets

Goodwill reflects the excess of the purchase price of business acquired over the fair value of net assets acquired. Goodwill is not amortized but instead is tested for impairment at least annually or more frequently if events or changes in circumstances indicate that the carrying value may be impaired.

The Company operates in one operating segment and this segment comprises one reporting unit.

Goodwill is reviewed for impairment at least annually in accordance with ASU 2011-08, Testing Goodwill for Impairment. ASU 2011-08 provides an entity the option to perform a qualitative assessment to determine whether it is more likely than-not that the fair value of a reporting unit is less than its carrying amount prior to performing the two-step goodwill impairment test. If this is the case, the two-step goodwill impairment test is required. If it is more likely than-not that the fair value of a reporting is greater than its carrying amount, the two-step goodwill impairment test is not required.

If the two-step goodwill impairment test is required, first, the fair value of the reporting unit is compared with its carrying amount (including goodwill). If the fair value of the reporting unit is less than its carrying amount, an indication of goodwill impairment exists for the reporting unit and the entity must perform step two of the impairment test (measurement). Under step two, an impairment loss is recognized for any excess of the carrying amount of the reporting unit’s goodwill over the implied fair value of that goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit in a manner similar to a purchase price allocation and the residual fair value after this allocation is the implied fair value of the reporting unit goodwill. If the fair value of the reporting unit exceeds its carrying amount, step two does not need to be performed. During the year ended December 31, 2015, no impairments were found and therefore no impairment losses were recorded.

F - 12

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Goodwill and other intangible assets (cont’d)

Intangible assets that are not considered to have an indefinite useful life are amortized over their estimated useful lives of up to 3 years. The acquired customer relationships, current technology, intellectual property and backlog are amortized over their estimated useful lives in proportion to the economic benefits realized. This accounting policy results in amortization of such intangible assets in the straight-line method.

Impairment of Long-Lived Assets

In accordance with Impairment or Disposal of Long-Lived Assets Subsections of FASB ASC Subtopic 360-10, Property, Plant, and Equipment - Overall long-lived assets, such as property, plant, equipment and purchase intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require a long-lived asset or an asset group to be tested for possible impairment, the Company first compares undiscounted cash flows expected to be generated by that asset or asset group to its carrying value. If the carrying value of the long-lived asset or asset group is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent that the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values and third party independent appraisals, as considered necessary.

Revenue recognition

Revenues from sales of products are recognized upon delivery provided that the collection of the resulting receivable is reasonably assured, there is persuasive evidence of an arrangement, no significant obligations in respect of installation remain and the price is fixed or determinable.

Sales taxes 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 operations.

Research and development costs

Research and development costs are expensed as incurred.

F - 13

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Allowance for product warranty

The Company grants service warranties related to certain products to end-users. The Company estimates its obligation for such warranties to be immaterial on the basis of historical experience. Accordingly, these financial statements do not include an accrual for warranty obligations.

Treasury shares

Treasury shares are recorded at cost and presented as a reduction of shareholders' equity.

Income taxes

Deferred taxes are accounted for under the asset and liability method based on the estimated future tax effects of temporary differences between the financial statements carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the consolidated statements of operations in the period that includes the enactment date. The Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs.

Share-based compensation

The Company recognizes compensation expense based on estimated grant date fair value in accordance with ASC Topic 718, Compensation -Stock Compensation as follows: When portions of an award vest in increments during the requisite service period (graded-vesting award), the Company’s accounting policy is to recognize compensation cost for the award over the requisite service period for each separately vesting portion of the award.

Basic and diluted earnings per share

Basic income per ordinary share is calculated by dividing the net income attributable to ordinary shares, by the weighted average number of ordinary shares outstanding. Diluted income per ordinary share calculation is similar to basic income per ordinary share except that the weighted average of common shares outstanding is increased to include outstanding potential common shares during the period if dilutive. Potential common shares arise from stock options and RSUs, and the dilutive effect is reflected by the application of the treasury stock method.

F - 14

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of significant Accounting Policies (cont’d)

Basic and diluted earnings per share (cont’d)

The following table summarizes information related to the computation of basic and diluted income per ordinary share for the years indicated.

	Year ended December 31
	2013		2014		2015
Net income attributable to ordinary shares
(US$ thousands)		17,077		14,605		16,520

Weighted average number of ordinary shares outstanding
used in basic income per ordinary share calculation		7,103,021		7,184,114		7,268,536

Add assumed exercise of outstanding dilutive potential
ordinary shares		143,011		134,792		99,448

Weighted average number of ordinary shares outstanding
used in diluted income per ordinary share calculation		7,246,032		7,318,906		7,367,984

Basic income per ordinary shares (US$)		2.404		2.033		2.273

Diluted income per ordinary shares (US$)		2.357		1.996		2.242

The weighted average number of shares related to options
and RSUs excluded from the diluted earnings per share
calculation because of anti-dilutive effect		-		37,304		43,181

Comprehensive Income

For the years ended December 31, 2013, 2014 and 2015, comprehensive income equals net income.

Fair Value Measurements

The Company's financial instruments consist mainly of cash and cash equivalents, short-term bank deposits, marketable securities, trade and other receivables and trade accounts payable. The carrying amounts of these financial instruments, except for marketable securities, approximate their fair value because of the short maturity of these investments. The fair value of marketable securities is presented in Note 5 to these consolidated financial statements. Assets held for severance benefits are recorded at their current cash redemption value.

F - 15

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of Significant Accounting Policies (cont’d)

Fair Value Measurements (cont’d)

The Company utilizes valuation techniques that maximize the use of observable inputs and minimize the use of unobservable inputs to the extent possible. The Company determines fair value based on assumptions that market participants would use in pricing an asset or liability in the principal or most advantageous market. When considering market participant assumptions in fair value measurements, the following fair value hierarchy distinguishes between observable and unobservable inputs, which are categorized in one of the following levels:

Level 1 Inputs: Unadjusted quoted prices in active markets for identical assets or liabilities accessible to the reporting entity at the measurement date.

Level 2 Inputs: Other than quoted prices included in Level 1 inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the asset or liability.

Level 3 Inputs: Unobservable inputs for the asset or liability used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at measurement date.

Concentrations of risks

(1)

Credit risk

Financial instruments, which potentially subject the Company to significant concentrations of credit risk, consist principally of cash and cash equivalents, short-term bank deposits, marketable securities, trade receivables and assets held for employees’ severance benefits. Cash and cash equivalents balances of the Company, which are subject to credit risk, consist of cash accounts held with major financial institutions. Short-term bank deposits balances of the Company, which are subject to credit risk, consist of short-term bank deposits held with a major Israeli Bank. Marketable securities consist of held to maturity marketable securities issued by highly rated corporations. As of December 31, 2014 and 2015, the ratings of the securities in the Company's portfolio were at least BBB+. Nonetheless, these investments are subject to general credit and counterparty risks (such as that the counterparty to a financial instrument fails to meet its contractual obligations). Concentrations of credit risk with respect to trade receivables are limited due to the Company’s diverse customer base and their wide geographical dispersion. The Company closely monitors extensions of credit and has never experienced significant credit losses.

(2)

Significant customers

The Company depends on a small amount of customers for its products. The Company's top three customers accounted for approximately 35% of its revenues in 2015. The Company expects that a small number of customers will continue to account for a significant portion of its revenues for the foreseeable future.

Liabilities for loss contingencies

Liabilities for loss contingencies arising from claims, assessments, litigation, fines, and penalties and other sources are recorded when it is probable that a liability has been incurred and the amount can be reasonably estimated. Legal costs incurred in connection with loss contingencies are expensed as incurred.

F - 16

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 2 - Summary of Significant Accounting Policies (cont’d)

Recent Accounting Pronouncements

(1)

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers. ASU 2014-09 outlines a new, single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The new model will require revenue recognition to depict the transfer of promised goods or services to customers in an amount that reflects the consideration a company expects to receive in exchange for those goods or services. The amendments in ASU 2014-09 are effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. Earlier application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The standard can be applied either retrospectively to each period presented or as a cumulative-effect adjustment as of the date of adoption. The Company has not yet selected a transition method nor has it determined the effect of the standard on its ongoing financial reporting.

(2)

In July 2015, the FASB issued ASU 2015-11, which, for entities that do not measure inventory using the last-in, first-out (LIFO) or retail inventory method, changes the measurement principle for inventory from the lower of cost or market to lower of cost and net realizable value. The ASU also eliminates the requirement for these entities to consider replacement cost or net realizable value less an approximately normal profit margin when measuring inventory. This ASU is effective in fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. This ASU is to be applied prospectively. Early adoption is permitted as of the beginning of an interim or annual period.

(3)

In September 2015, the FASB issued ASU 2015-16, which eliminates the requirement for an acquirer to retrospectively adjust the financial statements for measurement-period adjustments that occur in periods after a business combination is consummated. The ASU is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2015. Early adoption is permitted.

(4)

In November 2015, the FASB issued ASU 2015-17, which requires entities with a classified balance sheet to present all deferred tax assets and liabilities as noncurrent. The ASU is effective for interim and annual periods in fiscal years beginning after December 15, 2016. Early adoption is permitted.

(5)

In February 2016, the FASB issued ASU 2016-02, which requires lessees to recognize most of their leases on balance sheet as a right-of-use asset and a lease liability. The ASU is effective for interim and annual periods in fiscal years beginning after December 15, 2018. Early adoption is permitted.

F - 17

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 3 – Acquisitions

ADI Engineering, Inc.

On October 28, 2015 (hereinafter – "closing date") the Company acquired certain assets from ADI Engineering, Inc. (hereinafter – "ADI"), a privately-held, US-based provider of custom embedded communications and networking products, for an aggregate purchase price of US$ 10,000 thousand in cash and estimated contingent consideration of US$ 7,802 thousand in cash and in options to ordinary shares, payable in three yearly payments, after the closing, subject to the attainment of certain performance milestones until December 31, 2017. The fair value measurement of the contingent consideration is classified at level 3 of the fair value hierarchy (see Note 2V). Of the total purchase price of US$ 17,802 thousand, US$ 222 thousand was attributed to tangible assets, US$ 4,261 thousand was attributed to intangible assets and US$ 13,319 thousand was attributed to goodwill. The goodwill is primarily attributable to the synergies expected to arise after the acquisition. The goodwill recognized is expected to be deductible for income tax purposes for 10 years.

If new information is obtained within one year from the acquisition date about facts and circumstances that existed at the acquisition date, the Company will retrospectively adjust the relevant amounts that were recognized at the time of the acquisition.

Pro forma results of operations for this acquisition have not been presented because it is not material to the consolidated results of operations.

In connection with the first contingent payment consideration, the Company is obligated to pay ADI an amount of US$ 3,000 thousand as the first milestone was achieved. This obligation is included as part of the other accounts payable and accrued expenses on the balance sheet. In addition, the company maintains a US$ 4,942 thousand liability on its balance sheet as of December 31, 2015 in connection with the contingent consideration.

Fiberblaze

On December 10, 2014 (hereinafter – "closing date"), the Company completed the acquisition of all of the outstanding shares and voting interests of Fiberblaze, a provider of high performance application acceleration solutions, for an aggregate purchase price of US$ 10,161 thousand in cash and estimated contingent consideration of US$ 4,683 thousand in cash and in options to ordinary shares, subject to the attainment of certain performance milestones until August 31, 2015. The fair value measurement of the contingent consideration is classified at level 3 of the fair value hierarchy (see Note 2V). Of the total estimated purchase price of US$ 14,844 thousand, US$ 2,022 thousand was attributed to tangible assets, US$ 1,996 thousand was attributed to intangible assets, US$ 12,242 thousand was attributed to goodwill and US$ 1,416 was attributed to liabilities assumed. The goodwill is primarily attributable to the synergies expected to arise after the acquisition. None of the goodwill recognized is expected to be deductible for income tax purposes.

Pro forma results of operations for this acquisition have not been presented because it is not material to the consolidated results of operations.

In connection with the contingent payment consideration, the Company is obligate to pay to the Fiberblaze sellers an amount of US$ 1,498 thousand as the milestones were partly achieved. This obligation is included as part of the other accounts payable and accrued expenses on the balance sheet.

F - 18

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 4 - Cash and Cash Equivalents

	December 31
	2014		2015
	US$ thousands

Cash		14,172		12,329
Cash equivalents *		3,718		5,849
		17,890		18,178

*	Comprised mainly of deposits in banks as at December 31, 2014 and 2015 carrying a weighted average interest rate of 0.14% and 0.11%, respectively.

F - 19

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 5 - Marketable Securities

The Company's investment in marketable securities as of December 31, 2014 and 2015 are classified as “held-to-maturity” and consist of the following:

			Gross		Gross
			unrealized		unrealized
	Amortized		holding		holding			Aggregate
	cost basis**		gains		(losses)			fair value*
	US$ thousands
At December 31, 2015
Held to maturity:
Corporate debt securities
Current		8,720		-		(90	)		8,630
Non-Current		24,418		-		(255	)		24,163

		33,138		-		(345	)		32,793

At December 31, 2014
Held to maturity:
Corporate debt securities
Current		15,328		-		(69	)		15,259
Non-Current		20,536		-		(271	)		20,265

		35,864		-		(340	)		35,524

*	Fair value is being determined using quoted market prices in active markets (Level 1).
**	Including accrued interest in the amount of US$ 339 thousand and US$ 256 thousand as of December 31, 2014 and 2015 respectively. The accrued interest is presented as part of other account receivable on the balance sheet.

Activity in marketable securities in 2015	US$ thousands

Balance at January 1, 2015		35,864

Purchases of marketable securities		12,935
Discount on marketable securities, net		(561	)
Proceeds from maturity of marketable securities		(15,100	)
Balance at December 31, 2015		33,138

F - 20

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 5 - Marketable Securities (Cont’d)

The following table summarizes the gross unrealized losses on investment securities for which other-than-temporary impairments have not been recognized and the fair value of those securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2015:

	Less than 12 months					12 months or more					Total
	Unrealized Losses			Fair value		Unrealized Losses			Fair value		Unrealized Losses			Fair value
Held to maturity:

Corporate debt securities		(138	)		12,789		(207	)		20,004		(345	)		32,793

The unrealized losses on the investments were caused by changes in interest rate. The Company has the ability and intent to hold these investments until maturity and it is more likely than not that the Company will not be required to sell any of the securities before recovery; therefore these investments are not considered other than temporarily impaired.

Note 6 - Inventories

	December 31
	2014		2015
	US$ thousands

Raw materials and components		8,275		9,598
Products in process		11,263		9,013
Finished products		5,911		7,710
		25,449		26,321

F - 21

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 7 - Property, Plant and Equipment, Net

	December 31
	2014			2015
	US$ thousands

Machinery and equipment		5,338			6,906
Office furniture and equipment		433			608
Leasehold improvements		1,023			2,205

Property, plant and equipment		6,794			9,719

Accumulated depreciation		(4,336	)		(5,894	)

Property, Plant and equipment, net		2,458			3,825

Depreciation expense for the years ended December 31, 2013, 2014 and 2015 were US$ 639 thousand, US$ 891 thousand and US$ 1,599 thousand, respectively.

F - 22

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 8 - Goodwill and Other Intangible Assets

Goodwill

Changes in goodwill as of December 31, 2015 are as follows:


	US$ thousands
Balance at January 1, 2014		-

Business acquisition (see Note 3B)		12,242
Balance at January 1, 2015		12,242

Business acquisition (see Note 3A)		13,319
Balance at December 31, 2015		25,561

B.	Other intangible assets

Net other intangible assets as of December 31, 2015 are as follows:

			December 31
			2014		2015
	Useful life		US$ thousands
Original cost:
Intellectual property		3		200		200
Current technology		3		1,456		3,833
Customer relationships		3		540		1,937
Backlog		0.4		-		487
				2,196		6,457
Accumulated amortization:
Intellectual property				87		154
Current technology				28		654
Customer relationships				10		272
Backlog				-		213
				125		1,293

Other intangible assets, Net:
Intellectual property				113		46
Current technology				1,428		3,179
Customer relationships				530		1,665
Backlog				-		274
				2,071		5,164

Amortization expense for the years ended December 31, 2013, 2014 and 2015 were US$ 20 thousand, US$ 105 thousand and US$ 1,168 thousand, respectively.

F - 23

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 9 - Assets Held and Liability for Employees' Severance Benefits

Under Israeli law and labor agreements, Silicom is required to make severance payments to retired or dismissed employees and to employees leaving employment in certain other circumstances.

In respect of the liability to the employees, individual insurance policies are purchased and deposits are made with recognized severance pay funds.

The liability for severance pay is calculated on the basis of the latest salary paid to each employee multiplied by the number of years of employment. The liability is covered by the amounts deposited including accumulated income thereon as well as by the unfunded provision.

According to Section 14 to the Severance Pay Law ("Section 14") the payment of monthly deposits by a company into recognized severance and pension funds or insurance policies releases it from any additional severance obligation to the employees that have entered into agreements with the company pursuant to such Section 14. Commencing July 1, 2008, the Company has entered into agreements with a majority of its employees in order to implement Section 14. Therefore, as of that date, the payment of monthly deposits by the Company into recognized severance and pension funds or insurance policies releases it from any additional severance obligation to those employees that have entered into such agreements and therefore the Company incurs no additional liability since that date with respect to such employees. Amounts accumulated in the pension funds or insurance policies pursuant to Section 14 are not supervised or administrated by the Company and therefore neither such amounts nor the corresponding accrual are reflected in the balance sheet.

Consequently, the assets held for employees' severance benefits reported on the balance sheet, in respect of deposits for those employees who have signed agreements pursuant to Section 14, represent the redemption value of deposits made through June 30, 2008. The liability for employee severance benefits, with respect to those employees, represents the liability of the Company for employees' severance benefits as of June 30, 2008.

As a result of the implementation of Section 14, as described above, the liability with respect to those employees is calculated on the basis of number of years of employment as of June 30, 2008, multiplied by the latest salary paid. The liability is covered by the amounts deposited, including accumulated income thereon, as well as by the unfunded provision. Such liability will be removed, either upon termination of employment or retirement.

Expenses recorded with respect to employees' severance payments for the years ended December 31, 2013, 2014 and 2015 were US$ 578 thousand, US$ 432 thousand and US$ 543 thousand, respectively.

F - 24

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 10 - Commitments and Contingencies

Lease commitments

The premises and facilities occupied by the Company are leased under various operating lease agreements. Furthermore, the Company has entered into several operating lease agreements for motor vehicles in Israel.

The agreements related to leases in Israel are in Israeli Shekel (“ILS”) or in ILS, linked to the Israeli Consumer Price Index or to the US Dollars. The agreements related to leases in the USA are in US Dollars and the agreements related to leases in Denmark are in Danish Krone (“DKK”).

The minimum future rental payments under the above leases at exchange rates in effect on December 31, 2015, are as follows:

Year ended December 31	US$ thousands
2016		1,434
2017		582
2018 and on		861

Of the amounts above, US$ 24 thousand in 2016, relate to related parties.

Rental expenses under the lease agreements for the years ended December 31, 2013, 2014 and 2015 were US$ 837 thousand, US$ 1,243 thousand and US$ 1,403 thousand, respectively.

F - 25

Note 11 - Shareholders' Equity

Share based compensation

On July 21, 2004, the Board resolved, subject to shareholders’ approval that was given on December 30, 2004, to adopt the Share Option Plan (2004) (the "2004 Plan"). Option grants to employees under the 2004 Plan, including terms of vesting and the exercise price, are subject to the Board of Directors' approval. Option grants to directors and certain other officers are generally subject to the approvals of the Compensation Committee as well as Board of Directors, and grants to directors or a CEO will also generally have to be approved by the Shareholders. The term of the options shall not exceed 10 years from the date that the option was granted.

The 2004 Plan initially covered up to 282,750 options and subsequent to an amendment by the board in 2007 it covered up to 582,750 options. In August 2012, the Board of Directors increased the number of the ordinary shares available for issuance under the 2004 Plan by an additional 500,000. All options are at a conversion rate of 1:1.

On October 21, 2013 the Board resolved to adopt the Global Share Incentive Plan (2013) (the "2013 Plan") and to reserve up to 500,000 ordinary shares for issuance under the 2013 Plan to employees, directors, officers and consultants of the Company or of any subsidiary or affiliate of the Company. Grants under the 2013 Plan, whether as options, restricted stock units, restricted stock or other equity based awards, including their terms, are subject to the Board of Directors' approval. Grants to directors and certain other officers are generally subject to the approvals of the Compensation Committee as well as Board of Directors, and grants to directors or a CEO (and under certain circumstances certain other officers) will also have to be approved by the Shareholders.

Options or RSUs granted to Israeli residents may be granted under Section 102 of the Israeli Income Tax Ordinance pursuant to which the awards of options, or the ordinary shares issued upon their exercise, must be deposited with a trustee for at least two years following the date of grant. Under Section 102, any tax payable by an employee from the grant or exercise of the awards is deferred until the transfer of the awards or ordinary shares by the trustee to the employee or upon the sale of the awards or ordinary shares. Capital gains on awards granted under the plans are subjected to tax of 25% to be paid by the employee, and the Company is not entitled to a tax deduction. Gains which are not capital gains on awards under the plans are subjected to regular tax rates on individuals, and the Company is entitled to a tax deduction for such gains.

F - 26

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

During 2014 and 2015, the Company granted 74,000 and 8,000 RSUs respectively to certain of its directors, employees and consultants under the 2013 Plan. In relation to those grants:

The vesting period of the RSUs ranges between 2 to 3 years from the date of grant.

The fair value of RSUs is estimated based on the market value of the Company’s stock on the date of grant, less an estimate of dividends that will not accrue to RSUs holders prior to vesting.

The Company recognizes compensation expenses on these RSUs based on estimated grant date fair value, with the following assumptions:

	2014		2015
Expected dividend yield		2.06%		3.22%
Termination rate		4.35%		0%

F - 27

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

On July 28, 2015, the Company granted, in the aggregate, 89,907 options to certain of its directors and employees under the 2013 Plan. In relation to this grant:

The exercise price for the options (per ordinary share) was US$ 26.91 and the Option expiration date was the earlier to occur of: (a) July 28, 2023; and (b) the closing price of the shares falling below US$ 13.46 at any time after the date of grant. The options vest and become exercisable on the second anniversary of the date of grant.

The Company recognizes compensation expenses on these options based on estimated grant date fair value using the Binomial option-pricing model with the following assumptions:

Average Risk-free interest rate (a)			2.08%
Expected dividend yield			2.09%
Average expected volatility (b)			53.01%
Termination rate			9%
Suboptimal rate (c)			3.4%

(a)	Risk-free interest rate represents risk free US$ zero-coupon US Government Bonds at time of grant.
(b)	Expected average volatility represents a weighted average standard deviation rate for the price of the Company’s ordinary shares on the NASDAQ National Market.
(c)	Suboptimal rate represents the multiple of the increase in the market share price on the day of grant of the option which, should it come to pass, will lead to exercise of the option by the employee. It is the average suboptimal rate of the Company and similar companies.

F - 28

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

The following table summarizes information regarding stock options as at December 31, 2015:

	Options outstanding				Options exercisable
			Weighted average				Weighted average
			remaining				remaining
Exercise price	Number		contractual life		Number		contractual life
US$	of options		(in years)		of options		(in years)

15.28		129,044		4.7		129,044		4.7

26.91		85,657		7.6		-		-

		214,701				129,044

The aggregate intrinsic value of options outstanding as of December 31, 2014 and 2015 is US$ 3,825 thousand and US$ 2,229 thousand, respectively.

The aggregate intrinsic value of options exercisable as of December 31, 2014 and 2015 is US$ 1,556 thousand and US$ 1,938 thousand, respectively.

The total intrinsic value of options exercised during the year ended December 31, 2014 and 2015, is US$ 2,400 thousand and US$ 1,785 thousand, respectively.

The intrinsic value of the options at the date of grant is zero.

F - 29

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

F. The stock option activity under the abovementioned plans is as follows:

						Weighted
				Weighted		average
	Number			average		grant date
	of options			exercise price		fair value
				US$		US$

Balance at January 1, 2013		413,087

Exercised		(132,587	)		14.28		6.61
Forfeited		(7,750	)		15.28		6.54

Balance at December 31, 2013		272,750

Exercised		(78,620	)		17.19		7.70
Forfeited		(2,000	)		15.28		6.54

Balance at December 31, 2014		192,130

Granted		89,907			26.91		10.04
Exercised		(61,711	)		15.28		6.54
Forfeited		(5,625	)		24.07		9.19

Balance at December 31, 2015		214,701
Exercisable at December 31, 2015		129,044

F - 30

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

The Restricted Share Units activity under the abovementioned plans is as follows:


				Weighted
	Number of			average
	Restricted			grant date
	Share Units			fair value
	US$			US$

Balance at January 1, 2014		-

Granted		74,000			46.07

Balance at December 31, 2014		74,000

Granted		8,000			29.09
Vested		(4,000	)		46.07

Balance at December 31, 2015		78,000

The aggregate intrinsic value of RSUs outstanding as of December 31, 2014 and December 31, 2015 is US$ 2,604 thousand and US$ 2,363 thousand, respectively.

The aggregate intrinsic value of RSUs vested as of December 31, 2015 is US$ 117 thousand.

F - 31

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 11 - Shareholders' Equity (cont'd)

Share based compensation (cont'd)

H. During 2013, 2014 and 2015, the Company recorded share-based compensation expenses. The following summarizes the allocation of the stock-based compensation expenses:

	Year ended December 31
	2013		2014		2015
	US$ thousands		US$ thousands		US$ thousands

Cost of sales		103		124		150
Research and development costs		193		340		455
Selling and marketing expenses		177		366		502
General and administrative expenses		195		436		806

		668		1,266		1,913

As of December 31, 2015, there were US$ 1,553 thousand of unrecognized compensation costs related to outstanding stock options and RSUs to be recognized over a weighted average period of 1.34 years.

F - 32

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 12 - Geographic areas and major customers

Information on sales by geographic distribution:

The Company has one operating segment.

Sales are attributed to geographic distribution based on the location of the customer.


	Year ended December 31
	2013		2014		2015
	US$ thousands

North America		55,655		53,712		54,537
Europe		9,257		11,421		16,331
Asia-Pacific		8,386		10,489		11,870

		73,298		75,622		82,738

Sales to single customers exceeding 10% of sales (US$ thousands):


	Year ended December 31
	2013		2014		2015
	US$ thousands

Customer “A”		24,512		18,083		16,320

F - 33

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 12 - Geographic areas and major customers (cont'd)

C. Information on Long lived assets by geographic areas:

The following table presents the locations of the Company’s long lived assets as of December 31, 2014 and 2015:


	Year ended December 31
	2014		2015
	US$ thousands

North America		5		22
Europe		14,230		13,588
Israel		2,424		20,894
Other		112		46

		16,771		34,550

Note 13 - Financial Income (Expenses), Net

	Year ended December 31
	2013			2014			2015
	US$ thousands

Interest income		1,290			1,266			1,026
Discount on marketable securities, net		(643	)		(758	)		(561	)
Exchange rate differences, net		(89	)		(95	)		(148	)
Bank charges		(154	)		(150	)		(97	)

		404			263			220

F - 34

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income

Measurement of results for tax purposes under the Israeli Income Tax Regulations (Rules for Maintaining Accounting Records of Foreign Invested Companies and Certain Partnerships and Determining Their Taxable Income) - 1986

As a "foreign invested company" (as defined in the Israeli Law for the Encouragement of Capital Investments-1959), the Company's taxable income or loss is calculated in US Dollars.

Corporate tax rate in Israel

Taxable income of Israeli companies is subject to tax at the rate of 25% in 2013, and 26.5% in 2014 and 2015.

In January 2016, the regular tax rate in Israel was reduced to 25% as from 2016 and thereafter.

Tax benefits under the Israeli Law for the Encouragement of Capital Investments, 1959 (hereinafter - the “Law”)

On December 29, 2010 the Knesset approved the Economic Policy Law for 2011-2012, which includes an amendment to the Law for the Encouragement of Capital Investments – 1959 (hereinafter – “the Amendment to the Law”). The Amendment to the Law is effective from January 1, 2011 and its provisions will apply to preferred income derived or accrued in 2011 and thereafter by a Preferred Company, per the definition of these terms in the Amendment to the Law.

Companies can choose to not be included in the scope of the Amendment to the Law and to stay in the scope of the law before its amendment until the end of the benefits period.

Under the Amendment to the Law, which the Company started applying in 2014, upon an irrevocable election made by a company, a uniform corporate tax rate will apply to all preferred income of such company. Under the law, when the election is made, the uniform tax rate (for 2014 and on) will be 9% in areas in Israel designated as Development Zone A and 16% elsewhere in Israel. The profits of these Preferred Companies will be freely distributable as dividends, subject to a withholding tax of 20%.

Should the Company derive income from sources other than the “Preferred Enterprise” during the relevant period of benefits, such income will be taxable at the regular corporate tax rates for the applicable year.

F - 35

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income (cont’d)

Tax benefits under the Israeli Law for the Encouragement of Capital Investments, 1959 (hereinafter - the “Law”) (cont'd)

Through the end of 2013 tax year, the Company has elected to be taxed under the alternative benefits method, whereby the Company waives grants in return for tax exemptions. For the manufacturing plant in Yokneam the Company was entitled to an exemption from tax on its taxable income for a period of ten years beginning from the year of election; For the research and development center the Company was entitled to an exemption from tax on its taxable income for two years beginning from the year of election, and not more than 25%, on its taxable income in the next eight years.

In the event of distribution by the Company of cash dividends out of its retained earnings that were generated prior to 2014 tax year and were tax exempt due to the “Approved Enterprise” or "Benefited Enterprise" status, the Company would be subjected to a maximum of 25% corporate tax on the amount distributed, and a further 15% withholding tax would be deducted from the amounts distributed to the shareholders.

Out of the Company’s retained earnings as of December 31, 2015 and 2014, approximately US$ 44,742 thousand and US$ 44,892 thousand respectively are tax-exempt, due to “Approved Enterprise” and "Benefited Enterprise" status. If such tax-exempt income is distributed by cash dividend (including a liquidation dividend), it would be taxed at the reduced corporate tax rate applicable to such profits (up to 25%) and an income tax liability of up to approximately US$ 11,186 thousand and US$ 11,223 thousand would be incurred as of December 31, 2015 and 2014, respectively. The Company anticipates that any future dividends distributed pursuant to its dividend policy, will be distributed from income sources which will not impose additional tax liabilities on the Company. The Company intends to reinvest the amount of its tax-exempt income. Accordingly, no deferred income taxes have been provided on income attributable to the Company’s “Approved Enterprise" or "Benefited Enterprise". If the Company was to declare a dividend from its tax-exempt income, an income tax expense would be recognized in the period a dividend is declared.

F - 36

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income (cont’d)

D. Taxation of the subsidiaries

The subsidiary Silicom Connectivity Solutions, Inc. files tax returns to US federal tax authorities and to state tax authorities in the states of New Jersey, California and Virginia.

The subsidiary Fiberblaze is taxed according to the tax laws in Denmark and its subsidiary files tax returns to US federal tax authorities, New York state tax authorities and to the city of New York tax authorities.

The Company has not provided for Israeli income and foreign withholding taxes on US$ 1,846 thousands of its non-Israeli subsidiaries' undistributed earnings as of December 31, 2015. The earnings could become subject to tax if earnings are remitted or deemed remitted as dividends or upon sale of a subsidiary.

The Company currently has no plans to repatriate those funds and intends to indefinitely reinvest them in its non-Israeli operations. The unrecognized deferred tax liability associated with these temporary differences was approximately US$ 231 thousands at December 31, 2015.

E. Tax assessments

For the Israeli jurisdiction the Company has final tax assessments for all years up to and including the tax year ended December 31, 2012. In December 2014 the Company has filed a request to reopen the tax assessments for 2009 through 2012, in order to obtain tax benefits that the Company believes it is entitled to. As of December 31, 2015, the Company's request has not been accepted by the Israeli tax authority.

For the US Federal jurisdictions, Silicom Inc. has final tax assessments for all years up to and including the tax year ended December 31, 2011. For the New-Jersey state jurisdiction, Silicom Inc. has final tax assessments for all years up to and including the tax year ended December 31, 2010. For the California state jurisdiction, Silicom Inc. has open tax assessments for 2011 through 2015. For the Virginia state jurisdiction, Silicom Inc. has open tax assessments for 2015.

For the Danish jurisdiction, Fiberblaze A/S has final tax assessments for all years up to and including the tax year ended August 31, 2012.

For the US Federal jurisdiction, New York State and New York City jurisdictions, Fiberblaze US LLC has open tax assessments for tax years ended August 31, 2012, August 31, 2013, August 31, 2014, for the four months ended December 31, 2014, and for the tax year ended December 31, 2015.

F - 37

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income (cont'd)

Income before income taxes and income taxes expense (benefit) included in the consolidated statements of operations

	Year ended December 31
	2013			2014			2015
	US$ thousands

Income (loss) before income taxes:
Israel		16,857			16,522			19,486
Foreign jurisdiction		1,125			787			(1,061	)
		17,982			17,309			18,425

Current taxes:
Israel		949			2,494			2,383
Foreign jurisdiction		479			409			465
		1,428			2,903			2,848

Current tax (benefits) expenses relating
to prior years:
Israel		29			20			-
Foreign jurisdiction		-			-			(36	)
		29			20			(36	)

Deferred taxes:
Israel		(552	)		(200	)		(437	)
Foreign jurisdiction		-			(19	)		(470	)
		(552	)		(219	)		(907	)

Income tax expense		905			2,704			1,905

F - 38

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income (cont’d)

Deferred income taxes

The tax effects of significant items comprising the Company’s deferred tax assets are as follows:

	December 31			December 31
	2014			2015
	US$ thousands			US$ thousands

Deferred tax assets:
Accrued employee benefits		248			247
Research and development costs		636			679
Tax loss carryforwards		-			177
PPE		7			16
Inventory		-			160
Share based compensation		-			245
Other		22			21
Total gross deferred tax assets		913			1,545

Deferred tax liabilities:
Inventory		(99	)		-
Intangible assets		(444	)		(243	)
Goodwill		-			(61	)
Other		-			36
Total gross deferred tax liabilities		(543	)		(268	)

Net deferred tax assets		370			1,277

In Israel		913			1,348
Foreign jurisdictions		(543	)		(71	)
Net deferred tax assets		370			1,277

Current deferred tax assets		567			950
Current deferred tax liabilities		(259	)		(111	)
Non-current deferred tax assets		346			595
Non-current deferred tax liabilities		(284	)		(157	)
Net deferred tax assets		370			1,277

F - 39

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 14 - Taxes on Income (cont'd)

Reconciliation of the statutory tax expense to actual tax expense

	Year ended December 31
	2013			2014			2015
	US$ thousands

Income before income taxes		17,982			17,309			18,425
Statutory tax rate in Israel		25.0	%		26.5	%		26.5	%
		4,496			4,587			4,883

Increase (decrease) in taxes resulting from:
Non-deductible operating expenses, net		205			476			209
Non-taxable income		-			-			(819	)
Prior year adjustments		29			20			(36	)
Tax effect due to "Approved/Benefited/
Preferred Enterprise" status		(4,396	)		(2,588	)		(2,368	)
Taxes related to foreign jurisdictions		198			181			250
Changes in tax rate		399			-			35
Creation of deferred taxes for tax losses and
benefits from previous years for which deferred
taxes were not created in the past		-			-			(252	)
Other		(26	)		28			3

Income tax expense		905			2,704			1,905

Accounting for uncertainty in income taxes

ASC 740-10 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements. This standard prescribes a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. It also requires significant judgment in determining what constitutes an individual tax position as well as assessing the outcome of each tax position.

During 2013, 2014 and 2015 the Company and its subsidiaries did not have any significant unrecognized tax benefits and thus, no related interest and penalties were accrued.

In addition, the Company and its subsidiaries do not expect that the amount of unrecognized tax benefits will change significantly within the next twelve months.

F - 40

Silicom Ltd. and its Subsidiaries

Notes to the Consolidated Financial Statements

Note 15 - Subsequent Events

On March 21, 2016 Silicom's Board of Directors declared a dividend of US $1.00 per share payable on April 14, 2016 to shareholders of record as of April 4, 2016, and in the aggregate amount of approximately US $7.3 million for 2015.

In March 2016, the Company’s compensation committee and board of directors, respectively, have approved the grant of a total of 97,078 options under the Global Share Incentive Plan (2013), of which options granted to directors and office holders are subject to the approval of the Annual General Meeting, which is currently scheduled to convene no later than June 2016, as prescribed under the Israeli Companies Law, 1999 and the Company's Amended and Restated Articles of Association.

F - 41