The Hummus Manifesto: Part 2

by: Michael Eisenberg

Thanks to everyone for your thoughtful comments and retweets on Part 1 of the Hummus Manifesto. I received notes from representatives of our government as well as a note from someone who said they showed it to the Governor of Oregon! Most importantly, entrepreneurs read it and they are the ones who make a difference and together we can all make a difference.

In Part 2, I want to focus on the role the government has played in fostering incremental technology advancement as opposed to disruptive innovation and how by ignoring the success of the past (or resting on our laurels) we have let this wave of innovation and greatness pass us by. If that was not enough, in addition to stopping technology at customs in Ben Gurion airport, we have MKs who are actively shackling the tech industry while letting the Israeli Tycoons escape Knesset scrutiny, despite their grip on our economy (read my colleague Izhar Shay on this topic). Were it not for the great and talented young entrepreneurs in our country and incredible development teams at our start-ups, we would be in worse shape.
I wrote this piece almost two months ago and have edited it somewhat recently. But, the heart remains the same. Given the current battle between the Finance Minstry, Chief Scientist and the CEOs of ECI Telecom, Elbit etc, this post is a bit like throwing powder keg into an already tense situation but I think the point needs to be made.

The Chief Scientist has invested our tax money in an unfocused manner for over a decade and looming unemployment is the result.

The Lavi was a visionary project that spawned countless engineers with bleeding edge tech experience. The project failed but the technology economic engine that was created by government investment in bleeding edge innovation persisted. That is what happens when the government invests in deep research and very advanced technologies for the future. However, the last 10+ years of government investment has reactively sprayed our money around into companies with no hopes in the market (like the incubators) or they have plowed it into big companies in order to preserve jobs on projects that are not really financially viable.
When government bureaucrats, who have not been in the market for years, are asked to invest your tax shekels in technology, their vision and, hence, choices are limited. They either need massive strategic direction from the top/outside to make focused bets or they will react to proposals in a democratic manner. They have chosen the latter. Democratically spreading the wealth of investment shekels neither creates industries nor changes the trajectory of our national technology competitiveness. It simply sprays money ineffectively. But this is what the Chief Scientist's Office has done for much of the last 15 years. The end result is a pile of technology companies who did not receive VC funding and then get insufficient Chief Scientist funds to make a difference. Said differently, these technologies were rejected by the market but somehow the government decided to give it some of your taxpayer dollars, in insufficient amounts and with strings that make it harder to exit. This is backwards and it does not enhance our national technology competitiveness.
Then we have the Chief Scientist's investment in larger companies. Somehow Google (NASDAQ:GOOG) is able to develop Android, Google TV, Google Apps etc. without an American Chief Scientist investment; struggling Apple (NASDAQ:AAPL) (circa 2000) invented the iPod, iPhone, iTunes and iPad without Chief Scientist funding, but ECI (ECIL) can't develop a next gen product without it. Same for Tower Semiconductor (NASDAQ:TSEM). I don't get it. If it is a commercially viable opportunity or the next great market for your publicly traded company then go finance it from cash flow or raise equity. Why does it make sense for the taxpayer to fund public company projects that company management itself does not deem worthy of a balance sheet investment? And what are the odds that they will take that government money and spend it on disruptive innovation? It flies in the face of Clay Christensen's core thesis in the "Innovators Dilemma" that has been proven accurate time and again.
So we have the Chief Scientist investing dollars in projects that management deems unfinanceable basically in order to preserve jobs at larger companies like ECI (ECIL), Alvarion (NASDAQ:ALVR), and Tower Semiconductor. This is the recipe for incremental technology improvement malaise that we are in now as an industry. It is a job preservation strategy rather than a job creation strategy. And job preservation strategies ultimately go awry and lead to the opposite, job destruction, when the music stops. That is what is beginning to happen right now.
Despite the Chief Scientist's current approach, or, more accurately, because of the Chief Scientist's approach, I fear we will see a situation where the companies of yesterday, many of whom are Chief Scientist grantees, will start laying off high tech employees in droves. Motorola Arad and Alvarion are but the first shoes to drop. Tadiran has been laying off employees and the overly large grantee in Migdal Emek called Tower Semiconductor has hardly paid for its taxpayer dollars. In start-up nation, we could have many of yesterday's companies' engineers out of work, all with the help of government preservation incentives. It is astounding to think that despite what I describe as a dearth in tech talent, we would end up having thousands of tech employees laid off by these ossifying companies. This is not fair to these talented tech employees and it is not fair to our economy. They and we deserve better. In effect, the CEOs of these companies admitted as much last week when they warned of looming massive unemployment from their companies. I agree. It is coming if we do not do something dramatic.
Chief Scientist Eli Ofer took a step in the right direction with his Medical focus (reasonable people can argue about whether biotech is the right focus) but it is too small of an investment. The lion's share of taxpayer money still gets scattered in a non-strategic manner. And, it comes with too many strings attached. In fact, if you ask any venture capitalist, they will tell you that OCS money is a big negative in any investment. We advise our CEOs against taking the money from the Chief Scientist (for full disclosure, I have one company where OCS money pre-dates my board membership). A VC colleague and friend with inside knowledge told me that the Chief Scientist nearly killed the Dune acquisition. So the market actually selects out the better companies from taking Chief Scientist money and the Chief Scientist then invests taxpayer money in second tier companies with lower chances of returns. To be fair, there are cases in very capital intensive industries where this may not be true but I question whether those are areas the Chief Scientist should spray taxpayer shekels into.
My colleague at JVP, Erel Margalit is absolutely right in stating that it is outrageous to cut the OCS budget and instead we should be increasing it. In fact, we should massively increase government investment in improving our technological competitiveness. However, if we increase it and continue to use that money in a misguided manner, we might as well keep it in the taxpayer's pocket.
Again, The Ministry of Finance and Haim Shani gets this, which is why they are proposing the $100MM revenue test for Chief Scientist grants. However, former Chief Scientist Carmel Vernia, is also right that we should not be giving money to companies just because they are small. As I mention above, spraying the money to hopeless small companies is not a winning strategy either and is why the $100M revenue test is ultimately not the right filter. We need a new strategy for the Chief Scientist and/or maybe we need a new role (more on that in part 3).
We forgot the old playbook
The last wave of innovation was kicked off by attracting National Semiconductor (NYSE:NSM), Microsoft (NASDAQ:MSFT), Intel (NASDAQ:INTC) and Motorola (MOT) in their heyday. With the exception of Intel, these are not the new guard of growth companies and future technologies. Even as Motorola tries to right itself by charging into Android-supported smart phones, that is not what the Israeli arm is working on. Microsoft keeps coming...but it is not the growth engine it once was. And, it is downsizing. Israel has done little to attract this generation's growing companies such as Facebook, Amazon (NASDAQ:AMZN), Google (GOOG) and (NYSE:CRM). Even Broadcom (BRCM) and Google only have small outposts here. Companies like Facebook, Google, Salesforce etc. create entrepreneurial networks and spin out the next generation of startups and innovation, trained at the leading companies and armed with human networks to build a new company. When you are not part of that virtuous circle (which we are not), you miss the next wave of company creation. We forgot what worked in the past and did not work to attract these companies so we are missing the cycle.
And what have we done to attract the growing Chinese technology companies? Is anyone looking East? If we were R&D centers for great US companies in the past then why not Chinese companies in this decade? But, again, we have done little. (Calcalist reported that Huwaei is rumored to be operating here as Toga Networks but nothing is confirmed.) How did we forget this playbook to create training grounds for our best engineers inside tomorrow's growth companies and leading edge technologies? Who fell asleep at the Ministry of Industry and Trade?
Here is another example: Google offered communities to build ultra-speed broadband as a test. 1100 communities turned up. We have a whole country that is the size of an American community! Did we lobby Google to wire all of Israel with ultra-highspeed broadband. No! Could we have? Yes!

The ever-rising shekel (and it will rise more) makes us even less of a low cost provider. The truth is that we were never a low cost provider but now it is glaring on every CFO's budget projections so we need incentives to attract these new leading technology companies. It also means that we need to be a center of dramatic innovation. We need to make the coolest, most cutting edge, revolutionary, awe-inspiring products for the next century. However, we can't because our engineers are trained in the wrong technologies, our universities are under-funded, our post-docs go abroad and our talent is spread thin, our money is being sprayed around, we have not attracted new leading companies and we are under-investing in disruptive innovation. Oh, and the cutting edge technologies we smuggle in are stopped by Kahalon at Ben Gurion. What we have innovated is through the absolute genius of our Israeli entrepreneurs who beat all odds to do amazing things.

Investment capital is drying up
Many VCs (including ours) have come to the conclusion that Israel cannot support dedicated funds. We all want to continue investing in Israel and we continue to because the greatest entrepreneurs live here. However, because of what I describe above, there are simply not enough opportunities to build companies of venture scale in Israel and fill out a regular-sized venture fund (for a slightly different perspective, see Yaniv Golan's excellent response to my post and his comment on feature companies). One of the senior VC reporters in Israel told me a few weeks ago that there is currently not a full time job in the field covering VCs. Correct. We are a country that over time will likely rightsize between $250MM - $500MM of total start up investment per year. If that scares you, it should. It should scare not only the technology industry but anyone who cares about jobs in Israel because the tech industry generates jobs in restaurants, office furniture, hospitality and many other areas of the economy and this will ripple through.
We have never had late stage capital and that is a big problem. Again, Haim Shani, the new CEO of the Finance Ministry has his sights on solving this problem that also causes companies to sell early but I am not sure he has a full view on the incentives or scope of the problem. The Prime Minister's Chief Economic Advisor Professor Eugene Kandell has been working on this for a year now and has made a number of proposals. But his proposals were probably stopped at customs by Kahalon. He and his team at the National Economic Advisory Council are trying and are aware of the problem and I agree with them that we need more than one lever. Insurance to the local insurance funds is not enough. The local insurance companies and pension funds are at least honest enough to say that. Here again, we should remember the old playbook that Yozma delivered on so well. Ireland seems to have learned from it. We need to bring late stage expertise from abroad because we do not have it in Israel as best as I can tell. That requires a Yozma-like approach.

Well Michael, enough describing problems....try to be productive and make some suggestions. That will come in Part 3 of the Hummus Manifesto. This is a crowd-sourced document so please keep the comments coming so that the great people of Israel and the tech economy can bubble up the problems and bring forth the solutions that seem to be so elusive to "decision makers."