Land of milk and startups

It may be the size of New Jersey, but that hasn’t stopped Israel, a 65-year-old country with a population of more than 7 million, from being one of the most active incubators of early-stage companies in the world.

Dubbed “Startup Nation,” Israel has more companies listed on the Nasdaq than any other foreign country and the proliferation of tech startups puts it second only to Silicon Valley. Unfortunately, without access to sizable funding and a larger, global market, many of these promising startups founder.

INE Ventures, a venture firm founded in late 2012 by Managing Partners Josh Cline and Paul Grossinger, is hoping to fix that.

The firm, which has offices in Philadelphia and New York, is currently raising capital for its maiden fund which will focus on Israeli startups. But unlike other U.S-backed VC funds that invest in Israel, INE will relocate its Israeli portfolio companies to the U.S. to help them gain deeper penetration in a global market.

The fund, which launched last fall, has raised half of its targeted $5 million for its initial March 2014 close. Grossinger said that the pool’s LP base consists of high-net worth individuals who support Israel and live in Chicago, New York and Philadelphia.

Once the fund closes its initial target, the firm is planning to co-invest in 16 Israeli startups and move them to either Philadelphia (where Cline is based) or New York (where Grossinger is situated).

“There is no local market. Israel is tiny. All of the companies that we are investing in, they don’t even think of Israel as a market. They think global, and global for Israel typically means U.S.”

Roy Oron

Plus Ventures

There are several reasons for the firm’s Israel focus. First, Grossinger and Cline have personal connections to the country, with Cline holding dual citizenship as a former resident, while Grossinger is a frequent, longtime visitor.

Second, Israel boasts a level of technology that is not only equivalent to the U.S. but often superior, according to Grossinger. However, the Israeli tech startups have much lower valuations than their U.S. counterparts, which makes acquiring a stake in a nascent Israeli firm especially appealing for INE.   

“A seed round here for [a tech startup] in the New York region would be $4 to $5 million pre-money usually,” said Grossinger. “In Israel, most of those valuations if they don’t have significant sales are all sub $2 million. So we can actually underprice the current market in the U.S. but still make three to four times on valuation what we invested in. It’s a happy medium for everyone.”

INE is eyeing Israeli startups in the mobile and software-as-a-service sectors. Of particular interest are companies that have a potentially strong B2B or B2C growth model.

“They have to have some level of proprietary technology that we think is compelling in the market,” Grossinger said. “We’re not looking at a social media app that has 50 rivals and no potential business development partners.”

Certainly, the Israeli startup community garnered a lot of attention last year when Google paid about $1 billion to acquire Waze, an Israeli-based maker of a real-time navigation service that Google has incorporated into its own mobile mapping system. Prior to that, Waze had raised about $67 million in venture funding from U.S.-based BlueRun Ventures and Kleiner Perkins Caufield & Byers, as well as Vertex Management Israel and Magma Venture Partners in Israel.

The Waze acquisition ranked as one of the largest deals in the tech industry last year and certainly a significant one for Israel, which is expected to earn about $370 million in tax revenue from Israeli shareholders and Google on the deal, according to the Haaretz.com website in a report last month.

As part of the acquisition, some of the company’s R&D was expected to remain in Israel.

To help INE find the next big Waze-like company and other promising companies to invest in, the firm has partnered with several Israeli venture firms as co-investors. Among them are Magma Venture Partners, which has backed Israeli-based Onavo, an app developer that was recently bought by social network giant Facebook for up to $200 million; and Plus Ventures, an early-stage VC firm that is part of the Moldawsky Group, a diamond and real estate conglomerate.

The Israeli VCs will act as the eyes and ears of INE’s Israel fund, advising Grossinger and Cline on which companies to back. The Israeli VCs are expected to help INE lead Series A rounds for the Israeli startups.

Roy Oron, a partner and vice president of business development at Plus Ventures, which is based in the Tel Aviv suburb of Ramat-Gan, said his firm’s reputation as “one of the most active investors in the early-stage landscape” in Israel induced INE to approach him as a co-investor. Examples of Plus Ventures’ recent deals were its participation in the $10.7 Series A for Israeli startup Yotpo, in a round led by Blumberg Capital; and a $4 million round for advertising platform Carambola, in a deal led by Pitango Venture Capital.

Oron, a former VP of business development at AOL, said his firm’s unique and flexible investment strategy makes it an ideal partner for INE.

“Our structure allows us to be creative and tailor the right funding package, from a quick $100,000 in 48 hours like an angel to a $1 million investment,” said Oron, who added that the firm invests about $12 million a year.

Oron said that he agrees with the premise of the INE fund. For Israeli startups to grow into multinational companies, they may have no viable alternative but to move to the U.S. market.

“There is no local market. Israel is tiny,” he said. “All of the companies that we are investing in, they don’t even think of Israel as a market. They think global, and global for Israel typically means U.S, sometimes Europe, a little bit of South America. But most of it is U.S.”

Three years ago, VCJ made a gloomy prediction for the Israeli VC industry, pronouncing it to be on the verge of collapse. Recent stats compiled by the Israel Venture Capital Research Center (IVC), an industry group that examines PE and VC activity in Israel, suggest that may not be entirely off the mark.

Israeli venture capital funds raised $526 million in 2013, down 27% from 2012, according to an IVC report in mid-January.

Fundraising has slowed since 2011 with less capital being raised by fewer funds, according to IVC, which reported that 30 Israeli VC funds are in the process of raising capital, with a combined targeted total of more than $2 billion. However, only half are expected to raise capital in 2014 and the sum is not expected to exceed $1 billion.

As a result, local startups are finding it difficult to raise early-stage rounds of substantial size.

“There’s a huge gap in the middle where if an Israeli startup wants more than $250,000 or $300,000 and less than $2 million or $3 million, it’s incredibly difficult to find that money because the local Israeli VCs are tapped,” Grossinger said. “They don’t have a lot of capital to do these early deals alone and the later-stage VCs are doing it at a later round and engaging their American counterparts.”

Ofer Schreiber, a partner at YL Ventures, a San Francisco-based venture firm that recently raised $27.5 million for its second fund focusing on Israeli tech startups, admitted that “some of the local VCs had some difficulties raising follow-on funds, but most of them succeeded and new funds were formed last year as well.” 

With Israel’s tech scene growing, the country’s VC scene will catch up, Schreiber said.

“Consequently, we feel that the investment scene will evolve as well, and the investors that will keep providing added-value to their portfolio companies, will thrive,” he said.

Given how fertile Israel has become as a hub of innovation, Grossinger is also optimistic about what his fund can accomplish.

“There are a thousand Israeli startups that launch every year,” he said. “Maybe four to five hundred of them are good and maybe 10 of them will get late-stage funding.

”We would like to see an additional 10 to 20 get early-stage funding just from us each year and then we’ll build from there. It’s a much more scalable model because of the breadth of investing market that we can access here and the number of companies we can choose from at that stage.”

Iris Dorbian is a New Jersey-based contributor. She can be reached at irisdorbian@gmail.com