If there is one source that deserves credit for the existence of Israeli hi-tech, clearly, it is the military industries. A long list of Israeli hi-tech companies have a shared history. The founders of these companies drew experience, know-how and ideas from the military and the military industries, became what they are in the field of technology, and then set out to conquer the world.
If this is the situation, why don’t the military industries, which suffer in Israel, as they do the world over, from budget cuts on the one hand, yet have an abundance of technology and know-how on the other hand, penetrate civilian markets themselves and become success stories? The Israeli military industries have thought of this too. Thought, tried, and gotten burnt, costing taxpayers tens of millions of dollars along the way.
Why didn’t they succeed? Because the manner in which government companies operate and are managed doesn’t leave them a fighting chance. These are organizations that don’t operate for profit purposes and completely lack business-management culture. In short, they are the antithesis of the business world and they don’t stand a chance in the international market.
Just this high likelihood of failure, imprinted in the DNA of the military industries, is what makes RDC (Rafael Development Corporation Ltd) such an interesting experiment. A little more than five years ago, Rafael (Israel Armaments Development Authority) approached Rubin Krupik, an economist and lawyer by trade and a manager at Tadiran, with an offer he couldn’t refuse, the offer to come establish civilian operations for Rafael. Krupik took up the challenge and became General Manager of RDC, and to Rafael’s good fortune and his own, the forethought paid off.
Before we describe the strategy used today by RDC, we should emphasize that Rafael is the largest reservoir of technology and know-how in the country, at least among the military industries.
To the outside observer, not exploiting this resource cries out of waste. But at least for outside observers like us, Rafael, saturated with disputes with unions and internal pressures and friction, looks like the last place redirection to the commercial field could succeed. RDC set out, therefore, on a road filled with potholes, armed with a firm belief in the justification of this road, butterflies in its stomach and a glint in its eye.
"The basic assumption," Krupik says, "was that the military industries combine know-how in various fields (vertical integration) and therefore have commercial business capabilities. But they can fulfill this potential only under business circumstances which justify it. They must have a business model.
"If the reason for entering the civilian market is a drop in government budgets, they don’t stand a chance. There must be strong business rational. It is possible to try to exploit the national infrastructure created by employee lay-offs, and if there is practical technology, these people will find work in the private sector and establish joint ventures. Or it is possible to establish a unique business model."
Krupik claims varying the activities of a military industry can be done in one of three ways. The first is the acquisition of a civilian company, an impractical solution in light of the depleted cash reserves of most military concerns. The second is rebuilding military production lines for civilian production, which also doesn’t stand much of a chance, in light of the lack of managerial and business culture. The third way is an external, separate venture from the military organization, through a spin-off, and this is the way Krupik and Rafael chose.
After a few months of concerted effort, Krupik and Rafael established three independent companies during 1992, Power Spectrum (PST), which operates in wireless communications and the technological basis for Geotek, and Ormir and Sela, which operate in the semiconductor field.
In July 1993, RDC itself was established, and the three senior subsidiaries were affiliated to it. Seven groups of investors competed for the right to cquire 50.1% of the company. Discount Investments, PEC and Elron took home those honours, committing to an investment of $27 million. The remaining 49 share of the company remained in Rafael’s hands. "We combined the best technological platform in the country with the best business platform in the country," Krupnik stated.
He mentions that Rafael asked "what do we get out of all this?" According to Krupnik, the answer comes in five parts. "A properly managed model yields profits. It provides subcontracting work to Rafael, and is a source of employment for Rafael retirees. It contributes new technologies to Rafael as well as using Rafael’s technologies and thus they fertilize each other. It infuses the company with new work ethics. It had to be a model balanced for both sides. In the end, at least as much know-how went into Rafael as went outside."
The method Krupik and Rafael chose obligates them to accompany hi-tech companies from the inception of the idea, through the growth period, until success. The back-breaking route begins with an entrepreneur with an idea who succeeds in raising seed money, form a staff, build a prototype and a marketing data base for the product. At this stage, entrepreneurs usually raise capital from another investor, usually a venture capital fund, and begin development and the construction of a marketing infrastructure. Now comes the strategic partners’ turn, and if they haven’t erred along the way, they might succeed in selling the product. And that is only the beginning.
This chain demands a lot of patience from RDC. Most successes are not the overnight type. Krupik says the length of this chain is one of RDC’s weak points.
The way technology usually flows from Rafael to RDC is through Rafael retirees, taking off on a second career, full of adventure and challenge, as entrepreneurs and developers.
This is exactly how the technology and know-how flowed into many Israeli success stories, as we noted at the beginning of this article. In addition to "pumping" employees from Rafael, RDC is helped by Rafael and its people in development and production as a subcontractor. PST, for instance, currently wholly-owned by Geotek, paid Rafael $2.9 million in the first half of the year for development services and and sent orders for an additional $33.9 million in communications infrastructure manufacture, of which $20 million have already been paid to Rafael.
The RDC’s most mature company is PST, the entire control of which was transferred to Geotek in exchange for 3.4 million Geotek shares, worth $35 million on the market today.
Except for PST, none of the nine companies RDC has established have significant sales volumes and consistent growth records. The principal reason of course is that RDC raises the companies from birth, so the duration until they reach maturity and success is relatively long.
"Our success is that RDC exists," Krupik says. "It is a unique model making a contribution on the national level.
"RDC has $20 million in capital and access to $35 million (the Geotek shares). The companies we established employ 250 people, 40 of whom are Rafael retirees. Another 100 employees of Rafael work for us in subcontracting."