Coalition ministers recently pointed proudly to reports summarizing the latest tech investment patterns, which provided a ray of hope in forecasts for the future. Despite the opposition and protests against the judicial overhaul, Israel's tech industry is still alive and kicking and will soon return to its full strength. In one of the reports, Timor Arbel, CEO of LeumiTech - the tech banking arm of Bank Leumi, hinted that the worst is behind us and said that in the second half of the year we will begin to see "A renewal of activity and stabilization that will lead to renewed growth in the longer term."
Taking into account that venture capital funds, the main tech investment entities, have been reluctant to put their hands into their pockets over the last two quarters, this is good news. But does that mean there is no connection between a potential tech recovery and whether the judicial overhaul moves ahead or not?
The decline in Israel has been worse than the decline worldwide
The decline in investments in tech companies is an international phenomenon, of course, but as Israel Innovation Authority data prove, the decline in Israel is even worse. In the first quarter of this year, investment in Israel's tech industry was down 71%, compared with 66% in the EU, and 55% in the US.
The effects of the government's judicial overhaul cannot be denied. Israeli investors speak about Americans and Europeans who were reluctant to invest in Israel between February, and April, although this was more the case with new private equity investors rather than investors who know Israel. "Globes" has reported several instances where investors turned off the faucet, giving the "social-political situation" in Israel as the excuse. One such case was the agritech company CropX, which told how a European investor deducted about $2 million from a future round.
There have been reports of several acquisition deals for Israeli startups that have been frozen, and about a huge unnamed company that decided not to develop its advanced products in Israel. A series of unflattering cover stories in the Economist, op-eds in the New York Times by Thomas Friedman and Netanyahu's blitz of interviews in the foreign media led many foreign investors to understand that something bad was happening in Israel, even if they could not put their finger exactly on what.
Explanations for the sharp fall in investments in Israel
Despite all this, there are other, no less dramatic explanations for the sharp fall in tech investments in Israel. The most prominent is the large exposure of Israel's tech industry to a limited number of tech branches such as enterprise software as a service (Enterprise SaaS) - companies that develop software for organizations that are consumed as a service in the cloud - fintech and cybersecurity. These took the hardest hit in terms of company valuations. These companies were excessively bloated in value, which inevitably shrank.
Israel lacks strong clusters of companies in agritech, foodtech, cleantech and life sciences - which has been very beneficial to foreign tech interests.
Now fintech and cybersecurity companies have needed to raise more money, they prefer to wait until the storm passes in order not to suffer a decline in value. Their investors also prefer this, so as not to record a fall in returns that hurt their profits.
This leads to the other universal reason for the plunge in investment. As high-tech grew, so now it has contracted at the same rate. Investors believe that companies raised too much money in 2021 and early 2022, which allowed them breathing space for at least another quarter or two. When the money will run out, the average value of the companies will fall and new investment opportunities will emerge - then investors will return to investing extensively. So while the amount of investments will increase, the average valuation of startups will decrease.
The decrease in investments is partly an optical illusion resulting from investors waiting for a decrease in valuations and partly an excessive influx of entrepreneurs into the trendy AI field, which most investors have difficulty fully understanding. Many of investors are now staring at the bottom of the barrel and they are preparing to attack new investments in the second half of the year, after the money will run out for many companies. Others are waiting for the AI market to stabilize and it will be possible to mark out the companies that are moving in the right direction.
Growth in tech investments in Israel was the fastest in western countries between 2018-2021 - double the global average, the Viola Fund found. So it was easy for Israel, which was one of the world's tech capitals and a treasure trove of companies that fit in well in the Covid era: computer games that allow you to be entertained while isolating yourself at home; software that allows employees of an organization to connect remotely; and cybersecurity systems that keep the connection safe.
How will the second half of 2022 look?
Today, after Israel has seen falls in important indicators, such as the Tel Aviv Stock Exchange (TASE), the freedom of press index, the stability of the shekel, and even Tel Aviv's ranking among the world's innovative cities (according to Blink, Tel Aviv has for the first time fallen below Paris, Shanghai and Bangalore as a tech ecosystem) and says it will recover - but it will be more difficult for it. There is no doubt that the second half of 2023 will look better for Israeli tech companies but its starting point will be lower and its challenge in raising funds will be greater.
Published by Globes, Israel business news - en.globes.co.il - on July 4, 2023.
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