Sarah Lacy published a seminal piece yesterday on TechCrunch about the Israeli VC and entrepreneur scene.  In an article entitled, “Now that China Is the New Israel…What’s Israel?”, Lacy explores the evolution of the Israel tech industry.  From enrapture in 2000 to finishing 2008 without a single IPO and virtually no exits, Lacy questions whether Israel has just hit a bump in the road or just peaked out.

Lacy explains:

Israeli companies have raised just over $10 billion since the beginning 2001, but acquisitions and IPOs have returned just over $860 million over that almost eight-and-a-half-year period…

Somewhere along the way, the entrepreneur scene here lost its mojo.

So I don’t say this to trash Israel, but facts are facts. In sheer numbers, Israel’s place on the global scale of investing has been dwarfed by China, and matched by the United Kingdom. And after three days of talking to dozens of entrepreneurs and investors in Tel Aviv, this seems like a country wandering in the desert, looking for a new tech movement to own and dominate (emphasis mine).

Besides being the hottest reporter in the tech world ever (really), Sarah Lacy has a point.  We’ve spoken about the overabundance of foreign private capital making its way to Israel combined with smaller exits and how hard that makes it to post any real returns for an Israeli VC.

Furthermore, Lacy may be correct when she says poignantly:

What happened to Israel is a bit like what happened to Boston—the story and opportunity moved away from what the city’s entrepreneurs were good at. In the case of Israel, security and encryption was always a strength, but that’s not the growth industry that it was. In the case of Boston, enterprise technologies and telecom were always strengths. Now, as media has become the story of the last boom, it’s not a surprise New York surpassed Boston in the amount of venture capital raised.

But I think Lacy misses the point when comparing investments into China with investments into Israel.  Israel is a technology development center; Indochina is an investment destination.  VCs pour money into Israeli technologies because they are developed by Israelis.  Investors sink money into China/India because they have 1/3 of the world’s population.   Israeli entrepreneurs export technologies abroad while Indian and Chinese technologies are developed to be consumed in-country.  Israel produces and China/India consumes.

Israeli entrepreneurs have learned to sell and run businesses, not just flip them and start again.  Real products with real technologies are being sold.  Security is a big one but so is Israeli development for the mobile and the mobile web.  Mobile 2.0 applications are really just beginning to explode.

But much of this doesn’t require a big box.  I think Israel is suffering because there just aren’t that many exits.  To me, this doesn’t mean that the Israeli entrepreneur is washed up but that the VC industry just isn’t that interesting here.  Too much money chasing too few, good deals.  I’ve got friends looking to put seed money into 3-men startups to either make a cash-cash yield because these companies are quickly getting to profitability or to sell out for a few million dollars.  No 10x.  No multimillion dollars plunked down in successive B,C,D rounds.  Just good business.  In fact, this may attest to the maturation of the Israeli startup which is able to quickly get up to profitability.

So, Sarah, maybe what’s happened is not that the story and opportunity moved away from what Israeli entrepreneurs are good at but maybe that exact scenario is what happened to the Israeli VCs.  From where I sit, I still don’t think Chinese or Indian startups can hold a candle to what’s developed in Tel Aviv.

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Is it me or does it seem that Israeli startups are hotter than a stolen tamale? IBM (IBM) announces it’s buying ANOTHER Israeli startup. This time its FilesX, a company providing data recovery and back-up solutions for business continuity. This is on top of Big Blue’s purchase of XIV earlier this year. It does seem on the back of IBM’s activity and AOL’s (TWX) that Israel M&A is heating up — at the startup level.

Eze Vidra has a very good post over at VC Cafe entitled “The Golden Age? Israeli Startups Experience Funding Streak“. According to Vidra, “In 2007, Israeli venture capital funds raised a total of $1.1 billion (including venture lending), 21% more than in 2006″. The industry is expecting a slow down on the fund raising side in 2008 and the article shows some good analysis about what may happen to these flush companies and funds in the future.

The same article mentions that M&A activity involving Israeli companies that were either acquired or merged totaled $3.2 billion in 2007 in 75 deals – the second highest number of M&A deals in any one year to date. I find that stat interesting. Outside of ECI Telecom and Gilat (GILT) getting bought out last week, the M&A activity for the publicly-traded Israeli companies that we follow has been kind of quiet.

For now, Barron’s prediction that Check Point (CHKP) will get bought by IBM is just speculation.

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We recently got a chance to sit down with Jon Medved, a rock-star in the Israeli tech world, to discuss his new startup. This interview appeared as part of our new subscription newsletter, Israel Opportunity Investor. You can find out more about the product and the opportunities we cover at www.israelnewsletter.com

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Jon, can you tell us what Vringo’s all about?
Jon Medved: It’s not just a company story; it’s a story about trends. The trend is personalization 2.0. The big bonanza which most investors missed, myself included, was ringtones. If you were pitching VCs a ringtone company in 1999,you wouldn’t have even been able to get a meeting. You would have been shooed out. The ringtone business has been a goldmine for those investors who got it. Now, it’s a $6 billion business worldwide. It’s becoming a major source of revenue for the music labels. Take Universal Music Group, for example. Music star, Akon, recently sold a batch of 11 million ringtones. And unlike iTunes, which sells songs for $.99, these ringtones go for $2.

It’s the drive for human expression to want to stand out in a crowd, to personalize things, to make them mine. Just like Jibbetz does for Crocs shoes, allowing you essentially to pimp your shoes, like wearing a T-shirt with a slogan on it, or slapping a bumper sticker on your car — Vringo is doing the same thing for the phone. (Continue »)

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