Israeli Ventures

BME Capital Management

Leadership in Israel's Venture Capital

Written By Dr. Gideon Tolkowsky

Bottleneck in the venture capital industry in Israel

Common wisdom has it that the bottleneck to the resumption of growth in Israel's venture capital sector is in the availability of money. Is this really the case? Is the presently low level of Venture Capital investments an outcome of the difficulty in raising new Venture Capital funds and the resulting shrinkage of the available capital reserve for new and follow-on investments? I wish to suggest that this is not necessarily the underlying cause for the distinct VC slowdown. Maybe the reason for the current VC slowdown is entirely different, maybe it is to be found not in circumstances external to the VC community (Such as the increased risk aversion by financial institutions who have been the traditional investors in venture funds, nor in geo-political reasons, such as "the Israeli risk factor"). Maybe the more significant reason for the Israeli VC slowdown is internal to the Venture Capital community, maybe it is in the scarcity of venture funds that have the capacity and the inclination to lead investments, i.e. to form and lead syndicates for  individual VC transactions .

The scarcity of funds that lead start up financing rounds vs. the relative abundance of funds that are inclined to join financing rounds led by other is a common and familiar phenomenon that has accompanied the VC industry ever since its inception throughout ups and downs in the capital market. This has been the case in Israel and worldwide, wherever there has flourished a venture capital industry. Just like most other aspects of social behavior, herd behavior is common in VC too. Very few participants tend to lead venture capital transactions, while most players strongly prefer to join deal led and syndicated by other. Yet in Israel, this phenomenon has drifted to an extreme in the recent decade or two. So much so, that this herd behavior on the investors side, results in extreme under-utilization of the country's outstanding entrepreneurial and technological potential. Differently put, an Israeli technological entrepreneur has very few addresses to turn to for raising capital, this is so not only because the average Israeli VC fund is small relatively to, say, its American counterpart, and not only because there are relatively few funds in Israel, but, first and foremost, because there are very few funds capable of and willing to lead deals.

"Leading" a VC deal requires ability to independently conduct quality due-diligence,   and independently make investment decisions on the basis of which other professional investors can join the deal by way of syndication,

Israels Venture CapitalIf we attempt to analyze and list all reasons that stand behind the scarcity of Israeli venture capital funds that have the ability and inclination to lead deals we will put ourselves at risk of running out of breath. However, it appears one central reason is to be found in the very structure of venture funds. The classical structure of venture capital funds is that of a limited partnership. This structure deposits full managerial authority in the hands of the General Partner "GP" which is the fund management organ.  Normally this is a professional entity dedicated to fund management; In order to function effectively the GP must be a small and agile entity, capable of making decisions swiftly and efficiently, while relying on the managerial skills of the individuals who  manage it. However, in Israel it is not uncommon to find venture capital funds where the  GP's decision-making authority is  handed over to organs that are external to the GP or only partially overlapping with it, such external organs may be boards of directors, investment committees of various sorts, Etc. Such transfer of GP authority often results in slowdown of decision-making processes, or, even worse, loss of business boldness and creativity. Committees, by their very nature, are typically guided by the desire to minimize risk instead of quest for attainment of relative advantages over the competition by way of differentiation and boldness, among other methods. Therefore, committees generally do not make effective managerial organs. This is particularly the case in venture capital funds, where independent, creative thinking and openness to risks are key to success. Many Israeli investors in venture capital funds, most of whom are institutional, tend to maintain managerial control even if they are LP's and not GP's, and are not supposed to have managerial control. One cause of such inclination may be the absence of a long and well-developed tradition of investing in VC funds in the Israeli capital market, and, consequently under-developed understanding of how such funds should operate in order to maximize returns.

This brings us back to the starting point of this discussion. Leading venture investment deals requires leadership, personal and professional. If more investors in Israeli venture funds (mainly institutional investors) delegate to fund managers (GP's) more authority and responsibility, of the type the GP's need, then it is only reasonable to expect that more leaders will rise in the Israeli venture capital community.

The upgrading of leadership qualities among Israeli venture capital fund managers is likely to materially open up the existing bottleneck in this area. As better leadership skills means that more venture capital funds will be able and willing to lead investment deals, and, all in all, more deals will be made, This implies that the bottleneck in the Israeli VC landscape is not the scarcity of capital, but leadership.

Money is is a result rather than a cause.