A new report from Start-Up Nation Policy Institute (SPNI) has revealed a 20% decrease in investments between Q2 and Q3 2023, along with a nearly 50% plummet in the number of deals between July and September from 131 to 77.
While some of these low data points can be attributed to data collection challenges – including a lag in funding information reports and skewed data due to unpublicized SAFE funding rounds – the SNPI’s primary recommendation in order to prevent a severe hi-tech crisis lies in resolving Israel’s controversial judicial reform.
“Our main policy recommendation has not changed from the last quarter – return stability to the Israeli economy in general, and to the hi-tech sector in particular, by reaching broad agreement on the legislation changes and a clear statement that barring such agreement, no changes will be made. Any other scenario will continue, and likely worsen, the lack of trust between the hi-tech industry and the government, the instability, and the negative trends,” the report stated.
Even that, however, may not be enough. “Due to the severity of the current crisis, even a clear statement about halting the judicial reform will not return things to normal instantly. There is a real danger that both investors and entrepreneurs will wait on the sidelines to see what actually unfolds,” the SNPI continued, calling on the government to present a clear, credible, budgeted plan to help Israeli hi-tech emerge from the current crisis.
Less overall hi-tech investment
The decline in equity investments in Israeli companies has been evident since Q4 2021, when it peaked at an impressive $9.3 billion. The exceptional investment climate in 2021 was followed by a “return to normalcy” period in early 2022, and later, a global economic slowdown that affected the hi-tech sector, ultimately leading to Q3 2023 raking in a mere $1.7 billion in overall investment in hi-tech.
During the peak of 2021, the rate of investments in Israeli companies significantly outpaced that of the US and Europe. However, since then, Israel has experienced a sharp decline, SNPI’s data shows, noting that between Q2 and Q3 of this year, Israel lagged behind Europe but outperformed the US.
Investor Activity in Israel
A decline in total investments may stem from active investors committing smaller amounts or investing in fewer companies. It may also be a result of certain investors discontinuing their activities in Israel. While the precise reasons for investor inactivity may vary, a significant decline in the number of active investors raises concerns. The report illustrates the decrease in the number of active venture capital funds and investment entities in Israel, with both local and foreign investors having reduced their activity in Israel. The number of active Israeli funds declined by a third between 2022 and 2023, and the number of foreign funds decreased by over 40%. This decline is also visible in the broader spectrum of investment entities.
SNPI’s report further highlights that in Q3, four firms accounted for a significant 38% of the total funds raised in the quarter, with two of them already being unicorns (companies with over $1 billion valuation). If these four companies are excluded from the equation, the remaining investments would amount to just $1.0 billion. “The high concentration of investments in a small number of companies in Q3 may be worrisome and call for close monitoring going forward,” the report noted.
Unicorns and Mega Funding Rounds
Israel has seen a sharp decline in new unicorn births in 2023. While there were 17 Israeli unicorns in 2022, only one new unicorn, AI21 Labs, emerged in Israel in 2023. This decline reflects the challenging environment for start-ups in the country.
Additionally, the number of mega funding rounds (investment rounds of at least $100 million) for Israeli companies in 2023 has decreased significantly. Out of the 11 Israeli companies that secured mega-rounds, only three had their headquarters in Israel, while the majority had headquarters in the US or the UK. This trend suggests that foreign investors may be more attracted to companies based outside of Israel.
So now what?
The decline in investments in Israeli start-ups is a multifaceted issue with global economic factors, political instability, and a changing investment landscape all contributing. While some investors are less active due to the global slowdown, others may face difficulties raising funds or find fewer attractive investment opportunities in Israel. The decline in active investors raises concerns about the long-term health of the Israeli hi-tech ecosystem.
Professor Dan Ben-David, head of the Shoresh Institution for Socioeconomic Research and an economist at Tel-Aviv University, said it can be misleading to draw too many conclusions based on short-term statistics.
“In general, I would be wary of quarterly and monthly indicators,” he said. “It’s more important to take a step back and look at the bigger picture. What does the long-run trend look like in general, and has it changed in any way over the past year?”
From this perspective, several key observations become apparent, Ben-David explained.
Globally, he said, the hi-tech sector has faced significant challenges over the past year, and in Israel, the impact on the hi-tech industry has been more severe compared to most other nations. Compounding this issue is the fact that a substantial portion of Israel’s economic vitality is derived from the hi-tech sector, which makes the country particularly vulnerable.
Adding to this vulnerability, he continued, is the relatively small proportion of Israel’s workforce, with only 10%, employed in the hi-tech field. Moreover, a select few individuals hold significant influence in this sector and have the ability to relocate easily. Further compounding these challenges is the current political landscape characterized by populist leaders, individuals with controversial backgrounds, and those facing corruption trials.
These developments have prompted both individuals and capital to contemplate departing from Israel. “While it takes time for people to move, money moves out much more quickly. This is particularly evident in the parting of ways between the stock markets in leading economies and the Israeli stock market that had been completely in sync until the recent elections,” Ben-David said.
In a more detailed listing of its recommendations, the SNPI highlighted the need for incentivizing entrepreneurship and early-stage funding, boosting local institutional investment, formulating a national AI strategy, prioritizing emerging technologies, and establishing a collaborative forum for industry advancement.
“We have previously published some of these recommendations,” SNPI stated. “Failing to address them has a detrimental effect on the Israeli hi-tech sector, which plays a critical role in the country’s economy, productivity, and employment.”