December 15, 2008

Everyone knows about Israel’s entrepreneurial spirit and great technology. Not everyone knows about the driving forces that created a climate where VC could flourish.John Lennon once said about the early years of Rock’n Roll, “Before Elvis, there was nothing”. On the success of venture capital and high tech entrepreneurship in Israel, to paraphrase Lennon, “Before Yozma, there was nothing”.

Yozma was a program that the Israeli government created in 1993 to develop a venture capital (VC) industry from scratch. Within a few years, dozens of local firms had been established and high-tech companies were routinely raising more than $1B a year on a collective basis from domestic and foreign sources. In 2007, the total figure was $1.76B, which in absolute terms, is comparable with the UK and France and greater than Germany, and per capita, comparable with the US. Since 1993, a number of major foreign VCs have set up branches in Israel, including Sequoia Capital (the firm behind Google and Apple), Benchmark Capital and Greylock Partners, while numerous others have provided financing to Israeli start-ups.

If it was purely about the technology, Israel would be an easy sell: some of the innovations emerging from this tiny country are mind-blowing. A great example is Given Imaging’s PillCam, a disposable pill-sized camera that is encased in a capsule and used to diagnose stomach disorders after being swallowed. Other Israeli developments have caused revolutions in their industries. Voice over Internet Protocol (VoIP) software, pioneered in Israel in the 1990s, has enabled tens of millions of consumers to carry out free telephone calls over the Internet. In addition, VoIP has had a major impact on telecom operators, many of which are converting their systems to transport voice calls via IP. In all, the list of highly influential innovations by Israeli companies is long and includes Internet security, voicemail, ICQ instant messaging and the disk-on-key, the flash memory device that has replaced the floppy disk as a method for saving computer files.

Success Stories in Succession

Although exciting technology is important, what also attracts VCs to Israel is the possibility of a successful exit. Israel has more companies listed on Nasdaq than any other country outside North America, and between 2004-7, Israeli firms raised $2.3B in IPOs on exchanges around the world. Moreover, the market capitalizations of many listed businesses have become considerable. Check Point Software Technologies, which pioneered Internet security, is listed on Nasdaq at a value of $4.1B, while Nice Systems, a leading supplier of digital recording systems, is worth $1.3B on the same exchange. Amdocs, a major developer of telecom billing software, has a market cap of $3.5B on the New York Stock Exchange.

In addition, many firms have been acquired in high-profile transactions, and between 2004-7, almost $18B was spent on the purchases of Israeli high-tech companies. The most significant deals include HP’s acquisition of IT optimization software firm Mercury Interactive for $4.5B and SanDisk’s buy of M-Systems, which invented the disk-on-key, for $1.6B. It is worth noting that these deals were announced during Israel’s war with Hezbollah in the summer of 2006, as was Warren Buffet’s acquisition of Iscar Metalworking for $4B. These are all extraordinary testaments to how the world’s top businesspeople view investment in Israel despite the geopolitical situation. Dozens of other multinational firms have made acquisitions in Israel as well, including Microsoft, Intel, IBM, Applied Materials, Siemens and Cisco Systems. This is important to VCs because it means they know that there is a long list of potential buyers for a successful start-up.

Many of the giant corporations that have bought Israeli companies also have research and development facilities in the country, attracted, among other things, by a superior workforce. As Bill Gates said, “For Microsoft, having an R&D center in Israel has been a great experience… The quality of the people here is fantastic”. This is also a factor for VCs, because they base their investment decisions on the caliber of a start-up’s management and the talent pool from which it can recruit. Per capita, Israel is among the leading countries in the world for the number of engineers, PhDs, patents, scientific papers published, and citizens with a tertiary education. The World Economic Forum ranks Israel highly for the quality of its research organizations, which include the Technion – Israel Institute of Technology, the Weizmann Institute, the Hebrew University and Ben Gurion University of the Negev.

In addition, compulsory military service helps Israelis develop strong leadership and teamwork skills at an early age, and allows them to put into perspective the pressures they face in business.

For some, these qualities are augmented through employment at large multinational corporations, where they attain skills that can be used in start-ups, while the connections made can help form partnerships and win clients. An excellent example is Moshe Yanai, who developed a technology for storage software giant EMC that generated billions of dollars in revenue. He later co-founded Diligent Technologies and joined XIV as chairman, with both firms being sold to IBM for a combined total of about $500M.

It would not be surprising if Yanai went onto form another start-up, as Israel is full of serial entrepreneurs who have achieved successful exits and are building their next companies. Because of their previous accomplishments, they more easily attract VC capital. One entrepreneur who has “done it before” is M-Systems founder Dov Moran. When he established his latest firm, cellular device company Modu, VCs queued up to invest.

Virtuous Circles for Venture Capital

Without taking anything away from Israel’s entrepreneurial spirit, credit is also due to Israel’s government, which established Yozma and other initiatives to help start-ups, support R&D and encourage investment in high-tech companies. And while Yozma and regulatory changes have directly stimulated VC investment, the government’s Office of the Chief Scientist (OCS) has indirectly encouraged this type of financing by running programs designed to increase the chances of success for high-tech companies.

One of the most important is the Israel-US Binational Industrial Research & Development (BIRD) Foundation, which provides funding to joint projects between US and Israeli companies. Since its inception in 1977, BIRD has invested over $245M in 740 projects that have produced sales of more than $8B. Israel has similar bilateral arrangements with other countries, as well as agreements with multinational corporations whereby the OCS helps them identify Israeli R&D partners and provides financial assistance to the partnerships.

Many of the factors that make Israel a top destination for venture investment form interlocking virtuous circles: Israel produces great technology because it has great technologists, which has attracted the attention of multinational corporations. These corporations help improve the quality of the technologists and their commercial abilities, whether as partners, employers or clients, and this contributes to the formation and/or success of start-ups. After some of these businesses are bought by foreign firms, the circle repeats itself once again. And underpinning this whole construct is the government, which created the VC industry and has done much to help it succeed.


Gemini has invested in companies mentioned in this article, Modu and Diligent Technologies.

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Jason Harris

Jason Harris

Executive Director

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