Israeli Startups Could Face ‘Frozen’ Funding Environment Amid Political Turmoil

Over the last seven years, fintech Papaya Global has become one of Israel’s most successful startups, raising hundreds of millions of dollars to build out its HR and payroll platform.

But in late January, Papaya CEO Eynat Guez moved the company’s funds out of Israel, citing the country’s risky business climate amid political turmoil. She joins a growing group of tech leaders alarmed about Prime Minister Benjamin Netanyahu‘s plans to give parliament veto powers over the Supreme Court.

Such reforms have not only triggered widespread protests the scale of which Israel hasn’t seen in decades, but also raise questions about the future of the country’s technology industry. The Israeli government is moving to allow the Knesset, its parliament, to appoint justices, override Supreme Court decisions, and remove the high court’s power to judge government legislation. 

“There is so much at stake here, if this reform passes,” said Shuly Galili, a founding partner at UpWest, a seed investor based in Silicon Valley that invests in Israeli founders. This will impact “investments coming into the country, founders staying or not staying in the country.” 

Since the first vote on such reforms passed in January, the response has been swift from both tech investors and startups. Dozens of public and private tech companies have publicly announced they are taking funds out of the country. Guez, however, estimates that many more have done so quietly, amounting to what could be $7 billion to $10 billion in funds moved out of the country.

“It’s a new thing for the tech community to step outside the comfort zone of not being political and jumping into it and showing their force,” said Galili. 

Since the first vote was passed in January, Galili said, this issue has dominated her calls with startup founders. 

These judicial reforms were not discussed in advance of Netanyahu’s recent election in November 2022. “You can argue whether or not the majority chose these reforms,” said Guez. “It wasn’t even discussed. It’s a surprise for us, and it seems like the majority are saying, this is not what we are after.” 

‘Significant concerns’

U.S.-based Bessemer Venture Partners, an active investor in Israel for three decades, has had a local office there since 2007 and estimates it has invested more than $1 billion in Israeli startups including Axonius, Fiverr, Habana and HiBob in the past 10 years. But in February the firm advised its portfolio of startups in a private memo to hold only six months worth of shekels.

“We are confident in the resilience of Israeli high-tech given its limited exposure to the local economy, but have significant concerns that the current climate may result in a chilling effect on non-tech foreign investment and domestic consumption in Israel that goes beyond the challenging macro environment,” the firm wrote in the memo obtained by Israeli newspaper Calcalist last month. “Our primary business concern is the continued weakening of the shekel and the smaller risk of foreign currency controls as the outflow of funds from Israeli banks continues to gather steam. While both concerns may feel exaggerated at this moment, investor and public perception can abruptly make both risks a reality.”

Moving funds

Last week, Wiz, an Israeli unicorn, announced $300 million in funding at a $10 billion valuation, but said the new funding will not be moved to Israel amid the ongoing political conflicts.

Guez, too, acted quickly after that first vote, moving Papaya Global’s funds out of Israel to Europe and the U.S. As a CEO it’s always necessary to assess business risks. But Guez went further and was public in her criticism, seeing it as her responsibility to be vocal.

The Israeli government is starting to “demolish everything that we’ve built around here,” she said. It’s almost impossible to raise a round in Israel currently, she said, because the risk level is so high. The funding environment is “completely frozen,” she said. 

In a country with internal conflicts, the Supreme Court is one of the most important institutions, she said. “Eliminating the Supreme Court — this is the end of democracy.”

Nascent industry

Crunchbase data shows startups headquartered in Israel raised close to $8.9 billion in 2022 — down from $9.8 billion in 2021, a 10% decline year over year. That contrasts with overall global funding, which fell 35% year over year in 2022. 

The billions invested in Israeli startups is a testament to its lead in cybersecurity, health, energy, agriculture and foodtech. 

In the first two months of 2023, Israel-based startups have raised more than $500 million, down 72% from funding raised in January through February 2022. 

However, the amount invested in Israeli startups is much higher if you take into account that many Israeli companies have dual headquarters or are headquartered outside of Israel.

The growth in large Israeli technology companies is a fairly recent phenomenon. Five to six years ago, when Guez started fundraising for Papaya, the overriding notion was that you could not build big companies in Israel, and that founders would have good ideas and then sell. 

In the past five years, more than $50 billion was invested in Israeli tech companies, Crunchbase data shows. And more than 30 or 40 companies went public, Guez said.

The significance of the technology industry for the Israeli economy was highlighted in a report in 2022 from the Israel Innovation Authority. High-tech exports represented over 50% of exports for the first time in 2021 — with the majority of that in high-tech services. More than 10% of Israelis work for technology companies. 

Global outlook

The Israeli technology community is international in its outlook. 

“Israel doesn’t have a local market. Israeli founders have to be global from day one,” according to Galili, who works with Israeli startups on their strategy to go to market in the U.S. Israeli startups will build their R&D in Israel but also incorporate and set up banking in the U.S. and other parts of the globe.

Israeli startups are also dependent on global investors, many of whom have set up local investment arms in Israel due to the strength of the technology industry. Galili predicts that as much as 85% of dollars invested in Israeli startups come from outside of Israel.  

What is the impact?

Founders are looking at what their alternatives are. Technology industry startups have options to relocate to almost anywhere in the world. “Everyone is discussing this,” Guez said.

For now, Galili says the talent in Israel remains a draw to keep startups in the country despite the turmoil. “Most of the impact is the uncertainty we have right now,” said Galili. 

Going forward, Israeli startups who in the past incorporated their company in Israel might decide to do so in Delaware or elsewhere to protect their intellectual capital in a country where the judicial system is not compromised. 

The current political tensions might be misunderstood as being about the political right versus the political left, Guez said, but “it’s really about the right to live in a democracy.”

Protests against Netanyahu’s plans have even spread to Israel’s military. “As time goes by you see more and more people from the right are joining and saying, ‘This does not reflect our opinion. This is not what we voted for,’ ” Guez said.

“The general environment is that we understand that we need to unite and to fight for things that matter in this country,” she said.

Illustration: Li-Anne Dias

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