The spring sun burns down on Tel Aviv’s bustling streets, flooding Ernesto’s pasta joint with light. The homely restaurant, run by an Italian immigrant and his Russian wife, is the neighbourhood hang-out of Itzhak Yaakov, a retired brigadier-general, Israel’s former chief scientist and a progenitor of the country’s high-technology boom.
The 81-year-old Yaakov’s life spans the history of Israel, whose condition is the invariable subject for discussion at his weekly lunches with about half a dozen other former generals who also fought for the country’s independence in 1948 and in the wars that followed.
Yaakov played a decisive role in his country’s ”guns and growth” story and its rise from socialist-agricultural roots to high-tech powerhouse. Today, almost one Israeli in 10 works in the high-tech sector, and that group’s impact on growth and investment has been huge. Last year, some 3,500 start-ups were created in Israel - population 7 million - second in number only to the US. The coastal plain is known as Silicon Wadi. More companies from Israel are listed on the Nasdaq in New York than any other country other than the US; the exchange even has an Israel Index.
During Israel’s war against Hizbollah last summer, the local media sometimes talked disparagingly about the ”Tel Aviv bubble”. They were referring to the way the city’s entrepreneurs continued to nurture their start-ups, plan exit strategies with venture capitalists and deal in shares, apparently unmoved by the Hizbollah rockets falling in the north. The war knocked less than one percentage point off forecast growth in gross domestic product, which reached 5.1 per cent last year. High-tech exports rose 20 per cent.
The end of the global tech boom in 2000, accompanied by the start of the Palestinian intifada, had a far bigger impact on the Israeli economy than the Lebanon war ever did. Seven years later, however, the intifada has largely been confined to the West Bank and Gaza Strip by the Israeli military and by the ”separation barrier” - a system of walls, fences and checkpoints that divides Israel’s population, including many of its settlers, from their Palestinian neighbours. Most of the new Israeli entrepreneurs view the Palestinian problem as intractable - but also distant. To them, Tel Aviv feels closer to New York and Silicon Valley than to Jerusalem and the occupied territories.
Yaakov walks a little unsteadily these days, but he still has a fine head of white hair and was once a scrappy fighter. Born in British mandatory Palestine in 1926, the son of a Polish mother and Lithuanian father, he attended a school for ”workers’ children” but dropped out at 16 to join the Jewish Haganah underground army fighting against the British. His Palmach unit (the Palmach was Haganah’s strike force) carried out the first attack on a British convoy in Jerusalem.
After Israeli independence, Yaakov studied mechanical engineering at Haifa’s Technion, which many Israelis compare to the Massachusetts Institute of Technology and credit with having created generations of technically savvy Israelis. After graduating, Yaakov went to work as an engineer, but was so bored he rejoined the military. There, he rose to become head of weapons systems and development, working with people such as Uziel Gal, inventor of the Uzi sub-machine gun.
In fact, for Israelis interested in technology, the military was the place to be at the time. Then, as now, Israelis felt that, surrounded by hostile neighbours, they had to depend on their military wit and ingenuity to survive. ”We had to be inventive in the army,” says Yaakov. ”We made our first air-to-air missile in 1964 to 1965.”
As early as 1960, the Israel Defence Forces created a computer training unit, Mamram, which, along with a couple of still-secretive units in military intelligence, helped to create today’s network of computer professionals, whose connections and friendships are reinforced by yearly stints of reserve duty.
Meanwhile, the army sent Yaakov to MIT - the real one this time - to study operations research. There he discovered capitalism. When his teachers insisted he take a course in economic history, Yaakov threatened to go home, ”but they forced me to read Adam Smith, and I went through a revolution. I was in shock because until then I thought only Marxism existed in the world.”
Back in Israel, a close friend, Haim Bar-Lev - another Palmach veteran, pilot and paratrooper who rose to become Israel’s chief of staff and then minister of trade and industry - offered him the chance to put his new learning into effect. Bar-Lev proposed that Yaakov leave the military to take on a newly created job: Israel’s chief scientist. His role would be to boost industrial research and development by giving government money to companies. When Yaakov started as chief scientist in 1974, the military’s dominance of the high-tech sector was almost complete. There were only about 150 Israeli companies that did any R&D, all on a small scale. His grants helped companies to develop turbines for alternative energy and even a precursor to medical cat scanners.
Many people in socialist-dominated Israel did not want to see government money being handed to the private sector in this way. ”It was considered worse than gambling, and I wasn’t very popular,” Yaakov recalls. But Pinhas Sapir, the then-minister of finance, ”had balls and gave me an unlimited budget even though the risk in civilian spending is much higher”.
Abraham Adamov, Yaakov’s son-in-law, likes to host Saturday lunches by the swimming pool at his expansive Mediterranean villa. His home, surrounded by orchards, is in a moshav, an Israeli community that mixes private ownership with a co-operative ethos, about 25km from Tel Aviv. Children run around the gardens. Two black labradors lounge in the sun. Adamov likes to cultivate young Israeli chefs, and the buffet includes a mix of five-star and standard fusion food.
Adamov introduces me to his old friends. There is Zohar Zisapel, who has been described as ”the Bill Gates of Israel”, and whose RAD Data Communications group has sponsored many start-ups. Also present are Ami Erel, chairman of mobile operator Cellcom, and Reuven Adler, an advertising guru who helped Ariel Sharon become prime minister despite his ignominious record during the Israeli invasion of Lebanon in the 1980s. (Adler advised Sharon simply never to speak of Lebanon. It worked.)
”You are never more than a couple of telephone calls away from anybody else in Israel, and we all like to help each other out if we can,” says Adamov. The 58-year-old made his fortune in construction before venturing into high-tech. He was a co-founder of an online travel site, Farechase, sold to Yahoo almost three years ago for $24m, and, in 2005, launched a company called Friend. The group produces software designed to look like the cockpit console of an aircraft, with customised dials showing indicators for each customer. Companies can use it to track data such as orders, sales and inventory. Friend’s largest client so far is Strauss, one of Israel’s biggest food and coffee companies.
The cockpit idea was the brainchild of Amir Chodorov, company co-founder and a former Israeli air-force pilot and squadron commander. Israelis regard air-force pilots with almost the same reverence as movie idols. ”People will put on their CVs that they were accepted into flight school even if they didn’t make it as a pilot,” says Ester Levanon, chief executive of the Tel Aviv stock exchange and a former head of computer systems at the Shin Bet internal security service.
Friend also recruited Boaz Schnapp, a computer autodidact, as head of R&D. Schnapp fell in love with computers at high school in the 1970s and has no further academic qualifications - ”I found I could write better algorithms than in the books,” he says. He has also helped to develop command and control technology for unmanned aerial vehicles at state-owned Israel Aerospace Industries.
Adamov’s network of friends and business partners go further, however, than Israelis who developed their technology skills during military service, illustrating how the new generation of entrepreneurs has managed to draw on expertise from elsewhere, particularly the US. His contacts include Michael Porter, the Harvard Business School professor and authority on strategy and competitiveness, and Joel Hyatt, a business partner of former US vice-president Al Gore.
These contacts have helped Israeli companies open doors to further investment. Hyatt, who is based in Palo Alto, California, has invested in Adamov’s company, and says: ”Friend is a good example of how Israeli companies create economic growth, and how the company itself helps others to create economic growth, so there’s a virtuous circle in play. Israel reminds me of Silicon Valley. You see the same entrepreneurial fervour.”
Indeed, Porter, in his writings, has described how clusters of local companies competing furiously with one another develop skills that they can then apply to new markets. Yaakov argues that that sort of local competitiveness is at the heart of the Israeli drive.
But there have also been other spurs to Israeli innovation. The country lacks natural resources, for example. ”The reason it took Moses 40 years to find the Holy Land from Egypt is because it took that long to find the only place in the Middle East without oil,” jokes the stock exchange’s Levanon. And despite the government’s grants to the private sector, the military continued to innovate. Adamov’s friends’ constant referral to their military experience is no accident: the defence sector has continued to provide civilian high technology with ideas, people and technology.
RAD’s Zisapel says a particular spur to military innovation was the French embargo imposed on Israel after the 1967 Middle East war. During the few years before the US replaced France as the main supplier of arms, Israel had to develop its own technology resources even more intensively. ”We used to say the person who really created the defence industry was Charles de Gaulle because his embargo really created the push for the defence industry,” says Zisapel, age 58, who served in a military intelligence unit. (The US is now, of course, Israel’s principal financial and diplomatic supporter and, since the early 1970s, it has given billions of dollars in aid and military assistance.)
Innovation and entrepreneurial zeal would have counted for little without a stable economic environment. In the early 1980s, Israel staggered under hyperinflation of more than 500 per cent a year. The economic crisis resulted in the abandonment of the Lavi fighter jet project under US pressure because it was over budget. Hundreds of engineers were left without jobs.
As the decade progressed, the government embarked on an ambitious economic stabilisation plan, but it was only in the 1990s, with the move to a flexible exchange rate and the use of monetary policy to tame inflation, that Israel managed to turn its economy around. It came not a moment too soon: a million immigrants from the former Soviet Union, including many highly educated scientists and computer programmers, started to pour into the country at the beginning of the 1990s. Israel needed to find jobs for them, as well as for those left unemployed by the cancellation of the Lavi project.
The state came up with two ambitious programmes. The first, the Ministry of Industry, Trade and Labour’s creation of technological incubators in 1991, was successful in getting people to think about turning bright ideas into a business proposition. Today, there are 24 incubators dotted around Israel that have helped more than 1,000 start-ups with premises, guidance and finance.
The second government programme, a year later, called Yozma or ”initiative”, used subsidies to establish 10 venture capital funds with private-sector strategic partners from Israel, the US or elsewhere.
The growth of the venture capital industry allowed Israeli start-ups to find funding at home for the first time. ”The US used to be the only place in the world where you could raise money from individuals,” says Yaakov, who became a successful high-tech entrepreneur in New York for 20 years after he left government service.
But perhaps just as important as these state initiatives were the 1993 Oslo accords with the Palestinians, which triggered a warmer global embrace of Israel. Large companies such as Cisco, Motorola, IBM, Microsoft and Hewlett-Packard have all invested heavily in R&D centres in Israel, vastly expanding employment opportunities and skills.
”Fewer companies started in the incubator system than with venture capitalists, and neither helped the Russians all that much, though they are catching up now. But they did all contribute to Israel’s large pool of talent. There are more people who got experience with one of the big high-tech companies before deciding to create their own start-ups,” says RAD’s Zisapel.
Israeli high-tech companies raised $1.62bn last year, up 21 per cent from the previous year, according to the Israel Venture Capital (IVC) Research Centre. But the Israeli funds now face stiff competition from foreign competitors, eager to grab a slice of the action. The Israeli venture capital share of funding in the country was 40 per cent last year, down from 49 per cent in 2005.
Few observers of the industry worry about this: the influx of foreign money is testament to Israel’s new success. ”We must not forget that between 1985 and 2005, a revolution took place here in terms of the openness of the economy, foreign currency supervision and budgetary policy,” Stanley Fischer, governor of the Bank of Israel and former top official at the International Monetary Fund, told the Haaretz daily recently. ”People asked how it was that the Jews succeeded economically everywhere except in Israel, but today that question is no longer being asked.”
Danny Rolls is an example of what Fischer is talking about. The 34-year-old is a dreamer who wants to save humanity, not just Israelis. He got his idea for his software start-up six years ago when his wife was pregnant and they went to the doctor to check if the baby was at risk from genetic diseases. ”We had to give our family histories, and I had a vision of thousands of family trees flowing into a circle in the middle of a room. I almost fell from my chair as I really realised that everyone in the world is connected.” He knew there were plenty of genealogical web sites, but he wanted to map the whole world, create a ”GPS [global positioning system] for humanity”.
Rolls was no entrepreneurial novice. At the time, he was running his third start-up, a branding and marketing company. He began his career while studying environmental engineering at the Technion. He came up with the idea of Flash-card kits to help students pass psychometric tests and sold thousands of them. After securing venture capital funding for a website to help people time meetings and decisions based on astrology, he dropped out of school. (The idea failed to take off.)
By last year, he had a team to help him to set up Famillion, which has conducted a pilot project in Israeli schools for pupils to map their family trees. The software differs from other genealogy websites because its patented technology can merge and connect different family trees based on the barest of information. Even if names are spelled differently, it can recognise and link different families.
Rolls wrote the algorithms and recruited people such as Iptach Cohen, a former air force pilot and computer engineer, as chief technical officer. Harvard’s Michael Porter popped up again, as an adviser. Yagil Weinberg, a strategy consultant and another close friend of Porter, joined as business development manager. ”Danny was very convincing, but I knew everything would depend on the execution and the need for an internationally recognised agenda,” says Weinberg, who has consulted for corporations such as Procter & Gamble and Fiat. Along with helping to raise more investment to expand the company, he is in talks with Harvard Medical School about a family-mapping pilot project in the US to research hereditary-related diseases.
Rolls, who served in the army as an intelligence officer, views technology simply as a means to an end. ”I don’t just want to create a company which just does something better than another company. If we present a revolution in the healthcare of humanity, that is what’s interesting.”
Notwithstanding his lofty dreams, he wants to stay in Israel. He does not have a television or follow the news closely and accepts his children will have to do military service. ”To be Israeli taught me a lot about how to be related to a very strong community and culture.”
Benjamin Netanyahu, as finance minister in 2003, kick-started recent growth with a series of economic reforms that slashed welfare spending, speeded up privatisation and opened the capital markets. ”It’s not science and technology that create wealth. It’s free markets,” he said.
But some fear that even while Israel’s conflicts with its neighbours fail to drive away people like Rolls, Netanyahu’s free markets could weaken diaspora Jewish ties to Israel and prompt a brain drain as more entrepreneurs seek their fortunes in Silicon Valley or New York. Most start-ups dream of an eventual partnership, buy-out or public listing, and the US is the usual destination. Many of the companies that remain independent are incorporated in the US while retaining an R&D centre in Israel.
The stock exchange’s Levanon shrugs off fears of a brain drain, believing most entrepreneurs will still consider Israel their real home no matter where they travel or live. But she does speak wistfully about the 1970s, when she headed a team to set up the Shin Bet’s computer system with very little resources. ”People were paid less than outside the organisation but they stayed because they loved it. It was real Zionism for them.”
Meanwhile, many Israelis still worry about growing disparities between rich and poor, a decline in educational standards and a string of scandals that have affected politicians, the tax authority, the police and even the Israeli president in recent months. And those on the left - a shrinking minority, granted - also believe the 40-year-old occupation of the Palestinian territories has corroded the state and institutionalised racism against Arabs. High-tech Israel may at some point have to face these issues head-on. One way to do that may be to bring Arab innovators into the fold.
Caesarea, on the Mediterranean coast, is best known for its wealth of Herodian archaeological treasures and is now home to the Entrepreneurship Research Centre, set up by the international business school Insead and The Caesarea Edmond Benjamin de Rothschild Foundation. The centre’s aim is to provide management tools by studying Israeli start-ups, the incubator programme, venture capitalists, military-civilian ties and all the other elements that have created success. ”Our dream is to become a byword in innovation and entrepreneurship and bring people from all over the world to learn high-tech management strategies and create real tools,” says Doron Nahmias, the centre’s managing director.
One of their case studies is a high-tech incubator in Nazareth, a predominantly Arab town. Israeli Arabs make up around a fifth of Israel’s citizens and complain of widespread discrimination. Because Israeli Arabs do not serve in the military, they miss the opportunities to form the social networks that would help them in business.
When Davidi Gilo, a US-based Israeli investor, conceived the Nazareth incubator almost five years ago, he found it impossible to find any other Israeli Jewish investors. The incubator, called New Generation Technology (NGT), has since grown with the help of Israeli Arab businessmen and government grants. It hosts about a dozen start-ups but it is still too early to see whether it will be able to recreate success in the Arab sector.
”It’s very difficult to go to a Jewish businessman and convince him I need money for my idea. NGT was the only way to get funds and support,” says Jallal Gnaim, a pharmacist who is working with a Jewish partner on new molecules to protect drugs and cosmetics.
Along with better integrating Israel’s Arab population, the country faces the challenge of maintaining an educational system that can match the demand for engineers and innovative ideas as India and China increase their global presence.
Education has been subject to budget cuts in recent years, particularly to higher education and science, and entrepreneurs want this reversed. At a Knesset science and technology committee meeting last month, Eitan Broshi, director-general of the science and technology ministry, warned that the Nobel prizes that Israeli scientists have received are based on achievements from a generation ago. He also called for a special government team to reduce the brain drain caused by Israeli researchers going abroad.
There are other threats to the high-tech sector. Few Israelis claim expertise in marketing and sales, saying their national characteristic of brusqueness is better suited to the creative process, not the nurturing of long-term projects. RAD’s Zisapel claims not to be worried. ”Israel is still a very young country. Education is a problem but it’s being dealt with and constantly needs to be better,” he says.
Yaakov says he cannot count the ways in which Israel has changed since he was chief scientist. He wants to publish his memoirs, and his lawyers are in negotiations with the military censors. In 2001, he faced charges of spying after he showed his manuscript to family and friends, even though any military information he might have related, including any covering nuclear weapons, would be years out of date. He was acquitted but prevented from leaving Israel for three years. He calls his prosecution ”unbelievable stupidity”.
Israel continues to face threats to its existence, he says, but those simply spur its entrepreneurs on. ”If we survive, we will always do well because that’s the nature of the people here, to progress and advance under extreme conditions. We compete with each other more than any other people. If an Israeli sees their next-door neighbour doing well, it makes him want to kill him. Just in a competitive way of course.”
Sharmila Devi is an FT correspondent based in Jerusalem.
