Behind the 20% fall in investments in Israeli startups between the second and third quarters of 2023 is an even more dramatic statistic, Start-Up National Policy Institute (SNPI) reports, with the number of deals almost cut in half from 131 to 77 between July and September.
Not everything is attributed to the global crisis or Israel's judicial reform, according to SNPI. Part of the decline in investments in Israel, as in the rest of the world, is also due to entrepreneurs choosing to raise money from existing investors, without setting a company's new valuation known as SAFE raising. According to the study, companies do not report such rounds and therefore the actual number of financing rounds is higher than published. However, these fundraisings are usually for relatively small amounts, so the actual investment amounts are not significantly higher than those published.
Investors take flight
The report indicates that the source of the decrease in investments is also the disappearance of some investors from the scene. In fact, according to SNPI, there was a decrease of about a third in the number of Israeli venture capital funds active in local investments and 40% in the number of foreign funds. SNPI declined to mention names, but a "Globes" investigation found that among those who have not been active in Israel since the beginning of the year but were active here in 2022, were Verizon Fund, which closed its activity in Israel after five years, as well as Benchmark, Scale Ventures, Germany's Robert Bosch Fund and Citi's investment fund.
Many venture capital funds have been sitting on the fence and not investing while waiting for startup valuations to fall. In other words preferring to participate in unofficial financing rounds, such as SAFE rounds. Other reasons that have caused funds to disappear from the landscape is their difficulty in raising funds themselves and SNPI's researchers claims that there are investors who have stopped investing in Israel due to the political instability here.
"We cannot know for sure whether a fund that invested in 2022 stopped investing in Israel because its partners do not like what is happening here or because they found attractive opportunities elsewhere, or because they are sitting on the fence," says Dr. Danny Biran, one of the authors of the SNPI report. "In any case, this is not a phenomenon that can be ignored because the local high-tech industry depends on foreign investors."
Only one unicorn since the beginning of 2023
A further sign that Israel's tech industry is shrinking is the significant depletion of large investments in mature companies and the rate that new unicorns are being created. SNPI found that only one new Israeli unicorn has been created since the start of 2023: generative AI company AI21 founded by Prof. Amnon Shashua, Prof. Yoav Shoham and Uri Goshen, which is the biggest Israeli developer of a large language models (LLM). In fact, Israel compares to countries like Liechtenstein, Ireland, Canada and France where only one unicorn has been created in the last nine months. During that period, two new unicorns were created in Singapore, three each in the UK and Germany, and 26 in the US.
The number of "mega-rounds" of $100 million or more, fell from 36 to 11 in Israel in the first three quarters of 2023, of which only three companies are headquartered in Israel, seven of them are headquartered in the US and one is headquartered in the UK..
"Many companies that reached unicorn status in previous years did not meet their growth or profitability expectations, and some even lost their status when they had to raise additional capital with a smaller company valuation than $1 billion, which leads to excessive caution on the part of investors who determine the value," says Dr. Biran. "In this situation, the creation of new unicorns in this period indicates the technological or business uniqueness of these companies in fields that are considered to have great potential, which bring investors to put money into them at a high valuation despite the general atmosphere. However, the proportion of Israeli unicorns in relation to their number in the world is about a third of the corresponding figure last year."
Biran explains, "There could be several reasons for the fact that in 2023 only one unicorn was created in Israel, while around 60 were created worldwide, including in countries that are not considered technological leaders. Usually in a financing round that brings a company to unicorn status, a large amount is invested, which requires participation of foreign investors. The absence of such rounds can indicate that foreign investors are reluctant to invest large sums in Israeli companies during this period. In a period of difficulty in raising capital, a company needs to present a striking uniqueness, technological or business, in order to reach a value of $1 billion or more. It is possible that in 2023 almost no such new companies were operating in Israel. Whether it is the first reason, the second or both, this is a worrying phenomenon that Israeli tech is not used to.
"Also, the significant decrease in the number of mega-rounds that Israeli companies have managed to raise since the beginning of the year indicates the same worrying phenomenon. The fact that the headquarters of eight of the 11 companies that did raise mega-rounds is outside Israel may indicate that such companies are more attractive to investors."
In conclusion, SNPI recommends several government support measures for Israeli high-tech, but began with a comment regarding the judicial reform. "Our main recommendation is to restore stability to the Israeli economy in general and the high-tech industry in particular by reaching broad agreements regarding judicial changes and a clear statement that without such agreements, the legislation will not be promoted. Any other scenario will continue, and even exacerbate, the lack of trust between the tech industry and the government, the instability, and the negative trends. However, it is important to emphasize that due to the depth of the crisis, even a clear statement about stopping the legislation will not instantly return the situation to its original state. There is a real danger that both investors and entrepreneurs will wait to see how things develop in practice. We recommend, therefore, that the Israeli government define and present as soon as possible a reliable plan, backed by budgets, to assist the high-tech industry in coming out of the current crisis."
SNPI also recommends that: the government launch a program to encourage entrepreneurship and focus the Innovation Authority's budgets on early capital rounds in companies; adopt a national strategy for AI; and formulate a vigorous and clear action to put all its components into action; define high-tech areas that have high potential for the country, such as semiconductors, food and space technologies and implement national strategies for them that include the development and training of human capital and the creation of partnerships between countries. "The lack of such national strategies in Israel may further damage the competitiveness of Israeli high-tech in the international arena," the report states.
Published by Globes, Israel business news - en.globes.co.il - on October 1, 2023.
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