Silicon Wadi vs. Silicon Valley

The David vs. Goliath fight between Silicon Wadi and Silicon Valley [Source: http://www.constructionweekonline.com/pictures/gallery/Design/David_Goliath_1.jpg]

There’s a certain news article that caught our attention this past month. This article claimed that Silicon Wadi — Israel’s tech cluster — is giving the world’s foremost tech cluster, Silicon Valley, a veritable run for its money. This brings us to our question for today:

“Can Israeli startups accelerate faster (and eventually surpass) Silicon Valley?”

David vs. Goliath

At first thought, it might seem ludicrous to compare a tiny desert nation (that is the size of New Jersey with a population less than New York City) to the behemoth that is the United States.

But, it might be unwise to deride the contest completely because let’s face it, this battle is a classic story of the underdog versus the odds-on favorite. And, because we tend to overwhelmingly root for the underdog, there is plenty of reason for us to romanticize Silicon Wadi’s ascent.

Thus, the question posed earlier deserves an answer: yes, Israeli startups could accelerate faster than the Valley’s and there are plenty of reasons why.

Good Things Come in Small Packages

We can all acknowledge that Israel is a tiny nation (it is smaller than the Indian state of Manipur), and as the cliché goes ‘small things come in small packages,’ we know that its paltry land footprint isn’t holding it back.

Even with its limited resources, Israel’s startups contribute significantly to its country’s GDP — almost 12% to the country’s roughly $290 billion GDP.

In comparison, US startups are a miniscule proportion of its own economy — its contribution remains in the single digit as a percentage of its GDP.

Israel also has the highest density of startups and venture capital than any other country in the world, thus suffice to say that the tiny country packs a heavy punch in its small fists.

Reason # 1: The startup culture is so prevalent and embedded with the Israeli identity that as the country grows, its startup affinity will also thrive. Conversely, the startup doctrine is not a formidable part of the US identity.

It’s All About That Talent

A lot has been said about Unit 8200’s superb nurturing of Israeli tech talent to produce top-notch tech spearheads, but this elite intelligence unit only accounts for 1% of the Israeli population. If you look at the rest of the country, it is still impressive because Israel is one of the most educated countries in the world.

46–50% of its population have tertiary education (almost 50% of 34–44 year olds hold advanced degrees — the highest in the world). Translation: there is no dearth to the Israeli talent pool. The Hebrew University in Jerusalem, Tel Aviv University and Technion-Israel Institute of Technology are three universities (in the world’s top 10) that produces the highest number of VC-funded entrepreneurs (outside of the US).

Furthermore, on a per capita basis, Israel also astonishingly boasts the highest concentration of scientists and tech professionals than any other country in the world.

In comparison, 42% Americans hold tertiary degrees (a number that has teetered over the years because of high college tuition and a faltering school system). In the US tech field the bulk of the talent does not come from its own local pool, coming from overseas instead. Almost 50% of successful startups in the Valley were founded by immigrants (or children of immigrants), while 71% of US tech firms employ immigrants in crucial executive roles.

Historically the US had always attracted the world’s top minds into its universities, but with recent political and economic shifts this might soon change. The current buzz is that the country’s H1-B visa program (that tech companies use to hire foreign talent) might face rigorous reforms restricting immigrant tech-heads.

Reason # 2: The Israeli tertiary education system produces top-notch local talent for its tech industry while the US relies heavily on foreign talent. With polarizing political changes being propositioned in the States, the US may not be able to pool in the world’s top talent anymore which spells trouble for the Valley.

An Insurmountable Ceiling

One of the most important factors affecting the fate of the Wadi and the Valley is the stability of the economy that the two clusters operate in.

The ever-increasing US debt ceiling is not a good sign for the country. America has borrowed over $236B in the past 12 months alone to finance unwarranted real estate, consumer goods and vehicles.

Its government promotes a wayward ‘credit card borrowing’ lifestyle accumulating some $21 trillion dollars in debt over the years. This over-reliance on debt will only survive so long as the dollar is the world’s reserve currency. But, that feat might soon be usurped by the Chinese Yuan or Bitcoin which has experienced a rise in demand of over 500% in the past two years.

Meanwhile, the cost of living in major US cities has spiraled out of control driving out locals and detracting newcomers. More and more millennials are moving back to their parents’ homes post-college as sitcoms and op-eds satirize this growing problem.

On the flipside, Israel has done well to reach a healthy 62% debt-to-GDP ratio in the recent years — a long battle that began after the Yom Kippur War in the 70s when its debt threatened to eat up its then fragile economy. Other developed nations have an average debt-to-GDP ratio of 108% — a figure that is well above Israel’s current figures.

Because the Israeli government does not rely on an overdose of debt to sustain its economy, the country experiences organic growth and will continue to do so in the near future as well. This stable economy is more conducive to business than the volatile US one.

Reason # 3: We are all aware of the EU crisis that arose because of fearsome debt-to-GDP ratios thus America might be in for a rollercoaster of a ride in the near future as its debt ceiling continues to soar. In this respect, Israel is the safer bet.

The Wind of Change Blows Eastward

The availability of capital is imperative to the startup eco-system and currently capital seems to be flowing away from the Valley and into the coffers of Indian, Chinese and Israeli tech firms.

Israel currently pools in some 15% of the total venture capital money made available to the world’s tech firms. This number is touted to grow in the coming years as more Israeli startups shun exit strategies in lieu for mature-stage growth and advanced rounds of funding.

As more and more hi-tech startups sprout in Israel, the country is poised to benefit from the bigger chunk of VC money pouring into the country.

Reason # 4: The injection of VC money into Israel enables it to attract top talent into the country as well and sustain its lucrative capital-intensive hi-tech ventures. Global investors are not as enthusiastic about Silicon Valley firms anymore as they shift their focus to more exciting hubs in the world with more growth potential.

Our Two Cents

  • On Israel vs. the US

In short, the massive US debt saturation, the high cost of city living and the talent drain is slowing down the growth of US companies and suffocating its startups. Hence, it can be safe to speculate that Silicon Wadi is the next-best-thing to Silicon Valley in the near future.

The operative word here is that Silicon Wadi is the “next-best-thing” to the Valley. The fact of the matter is that there is no need to pit the two allies against each other. Despite the competition for funding, ideas and talent between the two tech clusters, there is a greater need for the US and Israel to collaborate on cyber-security and military technologies.

The unique Israeli-US cooperative gives Israeli tech firms an easier access to the US market than its counterparts in the EU and Asia. This is critical for the transformation of the startup nation into the definitive #scaleupnation.
  • On Startup Investing Opportunities

As for other views, it is important to take note that the large chunks of VC money doled over to startups has given rise to unsubstantiated firm valuations. Firms all over the world suffer from this problem, but it is anticipated that over the next 36 months, the valuation gaps between the US and the other markets will inch closer together.

Meaning:

Now is the time to enter growth stage investments in the up-and-coming markets (like Israel) and benefit from valuation arbitrage opportunities (that will not exist for long).