On the surface, the data looks promising: Funding by Israeli startups surged in the second quarter and first half of the year to levels not seen since 2022. There was no decline in venture capital investment for the first time in more than two years, and after two quarters of less than $2 billion in funding, it jumped to $2.9 billion in April-June.
The second quarter figures date back to mid-2022, a time when the tech festivities were starting to fade but activity remained strong and Israel was not in a serious state of war. EXIT headlines are also becoming more common again. According to PWC data obtained by Calcalist, the cumulative value of Israeli tech M&A and IPOs reached $4.7 billion in the first half of 2024, up from $2.7 billion in the same period last year. The number of deals also increased to 33 from 27 in the first half of 2023.
1 View Gallery
Tel Aviv skyline.
(Photo: Rotem Rogowski)
Those figures don't include the $1.5 billion sale of Dan Adica-founded WalkMe to SAP, because, according to PWC's methodology, an exit can't be counted twice, and WalkMe was already counted after its Nasdaq IPO in 2021. If you include that deal and the sale of Qwak to JFrog, announced about a week ago, the total exceeds $6 billion.
If these figures are so favorable, why is the tech industry sending out signals of distress? The distress is not yet apparent in the figures themselves, but lies between the lines. Calcalist has analysed and identified several weaknesses in the local ecosystem, as highlighted in its overview for the first half of 2024. This is not a catastrophe, but a future threat to the unprecedented achievements of the past decade.
Not all threats and processes are directly related to Israel, and global trends also play a role, exacerbating regional weaknesses.
Most problematic is the lack of Seed and A funding. All of the increase in capital raising has come from mega-rounds for older, larger companies. This has been accompanied by a significant decrease in foreign and local investor activity in Israel, as well as a decrease in the number of companies that continue to invest. Even the seemingly impressive number of exits does not necessarily bode well for the future of local tech. Often, companies are sold for hundreds of millions of dollars at a very early stage, never growing into large, sector-leading companies.
The central threat that overlaps all of this is actually already a reality, but no one has tried to measure it yet: most of the new startups born here are registered outside Israel. In the future, this could not only distort investment statistics in Israel, but also trigger a talent exodus from Israel, negatively impacting the tech sector's contribution to the economy through reduced tax revenues and jobs, not only in high tech itself, but in other sectors as well.
These are still matters for the wealthy, and one could argue that Israeli tech may revert to where it was in the early 2000s: a kind of global development center with few mega-companies of its own, all too impressive for the size of the country. But over the past decade, we’ve gotten used to a different place: we’re already on the runway to not just a startup nation, but a scale-up nation: a wide avenue of big companies employing 1,000+ people, selling for hundreds of millions or billions of dollars, managed from here, and creating the platforms the next generation of companies need to grow – a veritable Silicon Valley.
This age can be seen in companies that have grown and gone public, such as Monday, Global-e, JFrog, Payoneer, Taboola, and Cellebrite. While there are many Israeli companies that could IPO in the next year or two, if the local tech industry wants to remain competitive in the next decade, especially in light of the artificial intelligence revolution, it needs to develop the giants of the next decade now. And as we can see from the current data, warning signs are starting to emerge here.
Four particularly worrying trends emerge from the report on Israeli high tech for the first half of 2024:
1. Shortage of early rounds: From the impressive figure of $2.8-2.9 billion raised in the second quarter, excluding the big cyber-related rounds, we are left with a more modest figure of just $1 billion, according to the RISE Israel summary. The IVC and LeumiTech data released on Sunday confirms the real weakness, in that while over 60% of the funds were raised in six large deals, the total number of rounds remained unchanged at 111 in the quarterly summary, in fact the same level that characterized Israel in 2019. Another survey revealed that the number of seed rounds reached an unprecedented low in the second quarter, with only 45 rounds, following a steep drop to 91 rounds in the first quarter. For example, since 2019, the number of seed funding by Israeli startups has been at least 150 per quarter, with quite a few quarters in which more than 200 initial rounds were completed. This dangerous trend is also evident in the hot cyber sector, where a report from sector-focused VC YL Ventures found that there were just 11 seed rounds totaling $85 million in the first half of this year, but 36 rounds raising $354 million in all of 2023. That means that at the current pace, 2024 will be a much weaker year for the sector.
Why the decline? The reasons are also specific to Israel and include geopolitical uncertainty that does not encourage risk taking or the creation of new companies, the fact that many potential entrepreneurs serve in the Israel Defense Forces reserves for long periods of time, and a global trend of declining capital available for technology investments. In these circumstances, investors prefer to back existing, less risky companies in which they have already deployed capital. Also, a possible weakness for Israel is that investors today prefer new startups in the field of artificial intelligence, but it is not clear to what extent Israel is keeping up the expected pace in this regard.
2. Decreasing investor activity: The decline in funding for start-ups, on the one hand, and for established companies, on the other, is also directly related to the decline in foreign and local investor activity in Israel. RISE notes that the phenomenon of a continuous decline in the number of investors active here worsened in the second quarter. At this stage, it is difficult to know whether this is related to a decline in the appetite of institutional investors and family offices for venture capital investments, or to Israeli risk aversion, but the numbers are clear: the number of foreign investors investing in Israel in the second quarter hit a record low of 499. Here we refer not only to venture capital funds, but also to large corporations and institutional investors. The activity of Israeli investment entities also declined, mainly due to their inability to raise funds and the conservation of remaining resources to support existing investments.
3. Startups are retreating: The third concern is the most important of all, because it may be the root cause of the first two disturbing phenomena, and also the one that will cause the most serious damage to the Israeli economy in the long run. There are no official figures on this yet, and no one wants to publish them, but on the ground it is acknowledged that since October 7 last year, when protests against judicial reforms increased and their pace accelerated, new start-ups are not being registered in Israel. They are recruiting employees here, but the registration is done in the US state of Delaware, as it was 20 years ago, and management relocates to the US much earlier. Thus, it is possible that many employees hired at the early stages of companies with ties to Israel are counted as Americans.
The most important evidence of this can be seen in the discussions between Israeli institutional investors and the Innovation Authority over the definition of “Israeliness” for companies that can receive investment from institutionally funded venture capital funds as part of the Innovation Authority’s programs. Attorney Yoav Sherman, partner and head of the high-tech department at the law firm Arnon Segev, who accompanied several institutions in the Innovation Authority’s bidding process that ended last week, told Calcalist that “affiliation with Israel” was finally defined, with a requirement that 70% of R&D expenditures over the past two years be spent in Israel. This is a significant compromise, but it also returns to a focus on R&D while abandoning the encouragement to leave marketing functions in Israel. But the importance of the program is to focus on early-stage startups and provide a safety cushion to encourage new investments for local venture capital funds.
4. Most exits are not happy: Even the most objective statistics, which have made quite a few headlines in recent months of numerous exits, do not really please the local ecosystem. “There are signs of vitality in the industry, which can be seen in the relatively high number of companies sold,” says Yaron Weisenbluth, partner and head of the audit practice and tech cluster at PwC Israel, but he also acknowledges that the circumstances of the exits are not always happy. “The tendency to compromise values, driven by a desire to avoid a violent turning point in the future, is not only seen in Israel but globally. It is better than firing employees or closing the company in the future. As for Israel, there is a great deal of uncertainty in terms of security, politics and inflation. This can also prompt the decision to sell,” explains Weisenbluth.
As evidence of this, the majority of the large exits in the first half of the year were sales of companies that were two to four years old, which decided to forgo the chance to become large, independent companies.To conclude on an optimistic note, it can be seen in the large number of blue and white mergers, which account for around a third of all exits in the first half of 2024, with PWC highlighting the dominance of Israeli deals in both.
Without giant corporations to drive growth
All threats and damages are still reversible and, in some cases, circumstantial, in circumstances that are difficult to separate from the overall global situation. US tech is already on the road to recovery, but it is not yet fully operational, and despite a sharp rise on Wall Street in the first half of the year, hopes of a flurry of tech IPOs have been disappointing at this stage and have been significantly delayed until 2025. However, if current trends continue and take hold, Israel could find itself in a situation in seven to ten years time where there are no new giants to drive its growth.
RISE sums up the current state of Israel's tech industry: “Nine months into the war, with predictions that it may continue at some intensity for a long time, and with uncertainty regarding the security situation in the north, the tech industry's current challenges can be seen as not changing anytime soon. In many ways the industry has shown impressive resilience, but the stabilization of non-mega rounds of investment at a level of around $1 billion per quarter, and the continued decline in the number of active investors in Israel, are worrying signs. The Israeli government, especially with the support of the Innovation Authority, must find ways to help good startups weather this period of crisis until it is over.”
