Institutional investment in Israeli startups dropped by 54% in 2022
Institutional investment in Israeli startups dropped by 54% in 2022
Despite a decrease in the number of rounds with institutional participation and a reduction in the financial scale of investments, the half a billion dollars invested last year still marks a significant three-fold increase compared to 2020
The direct investments of Israeli institutional bodies in startup companies dropped by 54% in 2022, amounting to half a billion dollars. However, this still marks a significant three-fold increase compared to the meager sum of $157 million they invested in 2020. These figures were revealed in a special report on institutional investments in Israeli high-tech by Arnon Segev & Co. and research company IVC, in collaboration with the Israel Innovation Authority.
Among the most active entities in high-tech investments is More investment house, which is responsible for nearly 30% of the invested capital, participating in 18 funding rounds. Clal follows in second place with 16% of the capital invested in startups, engaging in 10 fundraising rounds. Phoenix and Migdal participated in 12 and 11 rounds respectively, with slightly lower amounts than Clal. The report also indicates that almost half of the investments, totaling $252 million, were made in the first quarter of 2022, during a particularly positive market atmosphere fueled by the 2021 bubble.
Direct investments by institutional bodies in startups, unlike their investments through venture capital funds, possess unique characteristics that differ slightly from traditional venture capital funds. Institutional bodies tend to prefer relatively large funding rounds, allowing their investments to have a substantial impact, even within provident funds or pension funds managing billions of shekels. Unlike traditional venture capital funds, institutional bodies are less wary of areas requiring a longer investment horizon, such as foodtech or deep tech. In 2022, foodtech and deep tech companies saw a high rate of investment from institutional bodies, while the venture capital industry primarily focused on enterprise and cybersecurity software. Fintech and insurtech also attract institutional investments, offering strategic investment opportunities with potential integration of the technology into the investor's own organization. Noteworthy rounds in which institutional bodies participated in 2022 included investments in foodtech companies Remilk and Redefine Meat, as well as deep tech companies such as Weka, Pliops, Cheq, and Drivenets.
Despite a decrease in the number of rounds with institutional participation and a reduction in the financial scale of investments, the overall figure remains encouraging. Institutional bodies had traditionally hesitated to make direct investments in startups, drawing criticism for their absence from major exits of Israeli high-tech companies.
Over the past two years, the significant pool of 2 trillion shekels managed by long-term savings entities has increasingly diversified into alternative investments, shifting focus from real estate to high-tech. One catalyst for this shift was the Innovation Authority's “route 43” benefit program in which NIS 2 billion were allocated for startup investments, providing partial protection against losses. Under the program, the institutional bodies are the ones providing the investment, but if after seven years their return on the investment is negative, the state will cover up to 40% of the loss. Alternatively, if the return exceeds 18.5%, the state will receive a 10% success fee.
The program was initiated during the 2020 Covid-19 pandemic to safeguard the future of the local high-tech industry. It lasted for 18 months and concluded in October 2022, with approximately NIS 1.2 billion being utilized out of the NIS 2 billion framework. Thus, about one-third of the record-breaking one billion dollars invested in high-tech in 2021 came from this governmental program. With the program mainly targeting investments in early-stage companies, institutional bodies also participated in larger rounds for mature companies outside of the program's framework.
Considering the above and the fact that half a billion dollars were nevertheless invested by institutional bodies in 2022, it seems quite clear that their appetite for high-tech investments has not diminished. Rather, it has adjusted to the new macroeconomic situation, including rising interest rates and inflation. In the final quarter of 2021, institutional bodies significantly increased their exposure to direct investments in high-tech companies, accounting for half of the investments made by Israeli venture capital funds during that period. In 2022, as global sentiment toward high-tech investments shifted, the institutional share decreased, ranging from 9% to 24% of local venture capital fund investments throughout the year. Prior to 2020, institutional investments in high-tech remained relatively low, typically not exceeding 10%.
"The institutional investors’ appetite for high-tech investments has not diminished, as demonstrated by the 2022 figures,” Yoav Sherman, head of the Hi-Tech and Venture Capital practice group at Arnon Segev, wrote in the report. “The surge in 2021 provided the institutions with valuable knowledge, enabling them to leverage their investments when foreign investors reduced their contributions, and Israeli funds faced limited available capital for new investments. The government and the Ministry of Finance must incentivize institutional investors to remain involved in the local ecosystem and renew Route 43. By investing in high-tech, the institutional investors can support innovation, contribute to the growth of the Israeli economy, generate jobs, and yield favorable returns for the investing public."
Calls to renew Route 43 and encourage institutional investments in high-tech have become increasingly prevalent, particularly in light of the significant drop in investments, exacerbated by the political situation in Israel. In the first quarter of 2023, venture capital investments in Israeli high-tech companies declined by approximately 70%, with the situation expected to worsen in the second quarter. Large foreign funds, such as Tiger Global and SoftBank, which were active in the country in recent years, have halted new investments to recover from losses. Insight Partners, one of the most active funds in Israel, is primarily focusing on continued investments in its portfolio companies, while other funds that occasionally invested in Israel are hesitant to deepen their presence due to the potential judicial coup.
Israeli venture capital funds continue to invest, primarily in early-stage companies, as it becomes more challenging for funds specializing in advanced stages to raise new investments due to the closed IPO market on Wall Street.
In contrast to the years of prosperity, when venture capital funds were less enthusiastic about institutional involvement, the current market situation has changed their sentiment. Institutional bodies, as local entities responsible for managing the savings of Israeli citizens, are less sensitive to internal political upheavals and are obligated to invest the money to generate returns for savers. Furthermore, the current market presents better investment opportunities as companies face increasing financial strain and become more willing to compromise on valuation. Consequently, an increase in institutional investments in late-stage companies is not unlikely.
While investment managers at institutional bodies acknowledge their duty to generate returns, they emphasize the need for government assistance in supporting high-tech. They argue that the responsibility for helping the high-tech sector and supporting its growth lies with the government, not solely with institutional investors. Investment managers urge the renewal of the Route 43 program, asserting that the current situation in high-tech is more critical than in 2020. They believe that renewing the program will attract greater institutional investments, strengthen the economy's growth engine, and bring more institutions into the high-tech landscape.
"Our loyalty is to our savers and we will not throw good money after bad money, but in recent weeks we are starting to see cases of good companies with liquidity problems and we are supporting them," an investment manager at one of the institutional bodies told Calcalist.
"We hear cries for institutional bodies to come to the rescue of high-tech, but our job is to generate returns. All the other goals, such as ESG, equality or supporting the growth engine of the economy are important, but they are not our mandate. There is a body that is responsible for this and is supposed to help high-tech and it is the government," says another investment manager at an institutional body active in high-tech. "The crisis in high-tech is currently much more serious than it was in 2020, so it is precisely now necessary to renew Route 43. Should this happen, all the institutional bodies will step up their investments because this is a much better period in terms of opportunities, and the floor that protects against losses also helps psychologically. Although the institutions continue to invest even today because the returns will be better, the renewal of the program will also strengthen the growth engine of the economy and bring more institutions into the picture."