Can Israel’s mighty tech industry withstand a wider war?
Soon after Hamas attacked on October 7th last year, around a third of workers at Elsight, an Israeli maker of drone communications systems, were called up to fight in Gaza. A similar exodus took place across Israel’s tech sector, which accounts for over half of the country’s exports, a fifth of GDP—and a fifth of the reservists in the Israel Defence Forces (IDF).
In the circumstances, Israel’s tech sector has been remarkably resilient. Venture-capital (VC) funding slumped when the war began, falling to $2.1bn in the last three months of 2023, the worst quarter in five years (see chart). But it has since surged, reaching $4.4bn in the second quarter of this year, according to Startup Nation Central, an Israeli non-profit organisation. Israel’s tech industry is accustomed to conflict—it emerged relatively unscathed from shorter bouts of fighting in 2006 and 2014—and many firms have benefited from a boom in defence spending both at home and abroad over the past year. Nonetheless, Israel’s widest and longest war in years may leave lasting scars if it is not resolved soon.
Israel’s tech prowess dates back decades. The government has long sought to boost industrial research and development (R&D) through grants, fund-matching arrangements and schemes such as the Magnet Program, which brings together companies and universities to develop technologies. That government policy has drawn private capital into the high-tech industry, says Avi Hasson, the chief executive of Startup Nation Central and a former chief scientist of the country. The upshot is that Israel spends more on R&D, relative to GDP, than any other country in the world, and more than double the average among members of the OECD.
Israeli tech has also been helped by its close ties to the country’s armed forces, which have not only been buyers of its whizzy products but also suppliers of entrepreneurs. For instance, former members of Unit 8200, the IDF’s renowned signals-intelligence group, have gone on to set up many prominent cybersecurity firms, including Wiz, which Google unsuccessfully tried to buy for $23bn in July, and Palo Alto Networks. These ties help explain why Israeli tech firms tend to focus less on things like mobile apps and more on cutting-edge innovations that may come out of, or be useful for, the armed forces.
Increased defence spending over the past year, both at home and abroad, thus offers one explanation for the resilience of many Israeli tech firms. Elsight has morphed into a defence-focused firm: it now makes more than half its revenue from military contracts, up from less than 5% before October 7th, according to Yoav Amitai, its boss. XTEND, an Israeli firm that makes software for drones and robots that inspect buildings and other infrastructure, has been signing contracts with the IDF. It raised $40m in funding in May.
Israeli tech firms in other buzzy areas of tech have also continued to do well. The country’s 460 or so cybersecurity firms are in high demand from companies wanting to boost their defences against hackers. Earlier this year Nvidia, a chip behemoth, is said to have spent $1bn on two Israeli artificial-intelligence startups, Deci and Run:ai. Medical technology is another bright spot. In August Johnson & Johnson, an American pharmaceutical giant, said it would purchase V-WAVE, an Israeli maker of heart implants, for up to $1.7bn. In July Alcon, a Swiss eye-care company, bought Belkin Vision, an Israeli startup that has developed laser-based technologies for treating glaucoma.
Yet other tech firms are increasingly showing signs of strain. Those dealing directly with customers have been hit harder by the conflict. Last month One Zero, an Israeli fintech firm, announced it would fire 6% of its workers after a deal with Generali, an Italian financial-services group, to establish a digital bank in Italy was put on hold. In a letter to employees, Gal Bar Dea, One Zero’s boss, blamed “uncertainty around the war situation”. Aleph Farms, a startup developing lab-grown meat, laid off a third of its staff in June.
Even in areas of tech that have done better, bosses note that the war is undermining morale and productivity. What is more, foreign tech firms such as Dropbox, a cloud-storage company, and Verily, a biotech firm owned by Google, have been shutting their operations in Israel.
That is a problem for the wider economy. About a quarter of the government’s tax take comes from tech companies and their employees. At the end of September Moody’s, a rating agency, downgraded Israel’s government bonds by two notches, pointing to “high uncertainty around the high-tech sector’s capacity to keep growing”. The longer the conflict continues, the worse the damage. ■
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