The Israeli One Billion Dollar Club—a Defining Moment for Israeli VCs
As mass amounts of capital are poured into Israeli startups, venture capitalist Ziv Kop outlines the challenges the local industry faces
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In Israel, invested capital and the number of companies backed by VCs increased significantly over the past few years. In 2017, Israeli startups raised around $5 billion, and 1,500 new companies were founded in the country, compared to around $2 billion and 1,000 new companies in 2012.
The increased capital being poured into Israel’s tech industry, is due in large part to the significant rise in growth-stage investments. Those are led by Israeli growth funds established since 2013, and by a number of foreign funds that increased their involvement in the local industry in the past few years. These massive investments also helped create the One Billion Dollar Club—a new cadre of growing private startups worth about a $500 million to $1 billion each.
Companies that in the past would have been sold early or attempted an initial public offering, now utilize available cash to rapidly grow and delay an eventual public float giving them more time to mature.
One can currently count about 10 unicorns—companies worth around $1 billion—and some 20 companies worth about $500 million in Israel, which are unprecedented amounts.
The most prominent example is probably Jerusalem-based automotive chipmaker Mobileye, which following a 2014 initial public offering at a valuation of $5.3 billion, was acquired by Intel in 2017 for $15.3 billion. The acquisition proved that large, impactful companies can grow in Israel. It also turned Intel into a significant player in the autotech industry, based on this single acquisition.
There are, however, several significant challenges the local VC industry is facing. To name a few, too many companies are created due to the availability of capital and the relative ease of starting a company. In turn, the growth in new companies resulted in a talent crunch that has raised the costs of human resources. Talent in the domain of artificial intelligence is especially scarce. Israel has also failed to create an environment that would successfully channel academic achievements into pharma and biotech companies.
But the greatest challenge is the limited amount of meaningful IPOs and acquisitions—acquisitions in the hundreds of millions of dollars that supply VCs with the returns they need in order to continue competing successfully on the next dollar against a VC focus on other geographies.
One can’t underestimate the importance of exits to the VC ecosystem—the capital created by these transactions is usually streamed back into the local ecosystem, thus increasing the amount of available capital in the market, attracting new foreign investors (financial and strategic), and turning entrepreneurs into angel investors.
Since 2013, only six Israeli technology companies completed successful medium-to-large Nasdaq floats: SolarEdge Technologies, Varonis Systems, Wix.com, CyberArk , Mobileye and ForeScout. In terms of time to maturity and capital raised via the IPO, only the first three fall into the classic term of a venture capital investment's maturation period.
Things are not looking brighter for investors in terms of the sales of Israeli technology companies. Aside from a few $200 million-300 million mergers and acquisitions in 2017, the recent meaningful acquisition deals worth over a billion dollars seen in the local market involved companies that have either gone public before or were already acquired prior to this exit (a “second exit”). The acquisitions of Mobileye, Playtika, NeuroDerm and Kite Pharma all fall into the category.
However, from my perspective, the number of deals per se is not necessarily the right way to assess the health of the ecosystem. Here are some alternative factors that should be taken into account:
1. Quality of companies. We are seeing an extraordinary number of mature companies and a dramatic improvement in the quality of management and the potential of growth in Israeli startups. Israeli entrepreneurs nowadays have better chances of establishing international companies than ever before, with executives that have the required management skills and not just the technical chops.
2. Timing. The effects of the changes taking place in the Israeli tech industry, and especially the existence of a vivid growth capital market, are likely to take several years before actual results can be seen. The availability of capital allows companies to remain private longer while benefiting from resources previously available only through IPOs.
3. A global trend. Mega funds, such as SoftBank’s Vision Fund, are disrupting the entire venture capital industry and redefining every stage of the investment process. The venture capital industry has become Unicorn-oriented— a relatively small number of companies that reach extremely high valuations that creates enormous returns for their investors and become a magnet of media attention.
4. Good things come to those who wait. Some Israeli companies, like Wix and Varonis, generated more value to investors after going public. Wix, SolarEdge, and Varonis were all founded in 2006 and completed their IPOs in 2013-2014, with $500 million-$600 million pre-IPO valuations. Five years later, Wix is valued upwards at $4.5 billion, and SolarEdge and Varonis are each valued at over $2 billion. That means that most of their value was created in the public market, although most of the risk was shouldered by their early investors.
In order to successfully sustain itself, the Israeli VC industry depends on the ability of members of the “Billion-Dollar Club” to “convert” their promising companies into meaningful exits. Personally, I am optimistic, and believe that by the end of 2019, we will see several Israeli unicorns create value for investors, either through mergers and acquisitions, IPOs or buyouts by global Private Equity firms.
Ziv Kop is a VC investor. Formerly, Ziv was a partner at Innovation Endeavors, a chief operating officer at content recommendation pioneer Outbrain, and a managing partner at GlenRock Israel.