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The Israel High-Tech Industry -
Fifty Years of Excellence
by Nisso Cohen
Israels high-tech industry is experiencing an unprecedented rate of growth which began in the early 1990s. Its growth is evidenced both in total sales - 1997 sales totaled $7.2 billion, a growth of 10.7% over 1996 - and in exports - $5.6 billion in 1997, a growth of 14.2% over 1996. This is in a country with a total population of less than six million; GDP (1996) of $92.3 billion; and exports (goods and services, 1996) of $31.3 billion.
Moreover, advanced technologies developed in Israel are in great demand, and many Israeli-developed applications can now be found in the products of multi-national companies in the communications, computers, information systems, medicine, optics, consumer goods and software sectors.
Origins
The Israel high-tech industry was born with the State of Israel. In 1948, the newly-created Israel Defense Forces established a branch called the Science Corps. The corps developed new arms, explosives, and a variety of electric and electronic appliances for the IDF. Israels military industry developed at a rapid pace, meeting the countrys needs for armaments and technologies which it could not obtain from abroad. During the same period, Israel developed what were to become the best institutions of education and scientific research in the Middle East. They include the Technion-Israel Institute of Technology in Haifa, the Weizmann Institute of Science in Rehovot, the Hebrew University in Jerusalem, and universities in Haifa, Beer Sheba, Tel Aviv and Ramat Gan. In the early sixties, Israel entered the nuclear era with the establishment of two nuclear research plants.
The first Israeli computer was developed and assembled in the early fifties at the Weizmann Institute. Golem ("dummy") was an all-tube computer, similar to the first computers developed in the US in the forties. In the late fifties and early sixties, there were already several mainframe computers in Israel, purchased from IBM and Philco. Those computers were used primarily by government ministries and institutions, universities and a number of banks. In the late sixties and early seventies, mainframe and mini computers penetrated the financial and business sectors. During the eighties, many Israelis acquired personal computers.
The High-Tech Industry
One factor in the exceptional growth rate in this industry in recent years is Israels percentage of engineers, the worlds highest, with 135 engineers per 10,000 persons, as compared to 85 per 10,000 persons in the United States. Another factor has been the many thousands of skilled engineers and technicians who have immigrated from the former Soviet Union since 1989.
Moreover, advanced technologies that were originally developed and utilized for military purposes are now being used for developing commercial products for civilian use. With the downsizing of Israels defense industry - as a "peace dividend" - thousands of skilled personnel have left the defense industry since 1988. Many of them were absorbed into the civilian marketplace, while others formed start-up companies which later became successful high-tech firms.
The ongoing success of the Israeli high-tech industry is reflected in the local and foreign stock markets. In 1996 Israeli firms provided the third largest number of initial purchase offerings (IPOs) on the NASDAQ (over-the-counter stock exchange) in New York, after the US and Canada, and the second largest number of IPOs on the relatively new AIM (Alternative Investment Market) in London (after the UK). Many leading American investment houses and venture capital funds have established a presence in Israel in order to support Israeli high-tech firms and benefit from the current boom.
Technologically, the Israeli high-tech industry is well positioned among the top five world leaders in the field. The following conditions in the local market have supported the industry:
- In a country where PCs are widely used, the atmosphere and the positive attitude towards computers is conducive to the development of high-tech skills in the younger generation.
- Israels leaders are proud of the countrys high-tech "label" and promote it. The result is that the country is particularly interested in cooperation with foreign investors in the high-tech fields, more than with investors in other areas.
- A unique Israeli phenomenon is the office of the Chief Scientist at the Ministry of Industry and Trade, which distributes grants totaling nearly $400 million to various R&D projects. The projects that succeed are expected to pay royalties to the Chief Scientists office for a number of years.
Domestic Technological Advancement
Israel has firmly established itself as the most computerized country in the Middle East; it even surpasses some Western European nations. In 1997, more than 250,000 personal computers were sold in Israel, compared to 102,000 sold in Egypt (with a population of some 60 million) and just under 300,000 in Turkey (with a population of some 65 million).
Israel also leads the Middle East with the highest penetration rate of PCs in private homes. There is a personal computer in nearly one out of two households, a ratio similar to that of the United States, Canada and a very few European and Far Eastern countries. In recent years, the education system has purchased tens of thousands of computers for use by students, from kindergarten through university age.
Compared to other so-called high-tech 'tigers', such as Korea, Malaysia and Taiwan, Israel is unique in that it is a "true" high-tech country, with a highly developed domestic market for computing and telecommunications. Israel is also a "quick adopter" of advanced technologies. Local expenditure on information technology is estimated at $2.4 billion in 1997, with a steady growth of 12-15% annually. Worldwide, expenditure on information technology reaches about $700 billion, with a 5-year compound annual growth rate of about 10%.
Telecommunications Infrastructure
In 1984 a government-owned company - Bezeq - took over the telephone and telecommunications services, which had previously been supplied by a department of the Ministry of Communications. Since then, the telecommunications infrastructure in Israel has developed at a rapid pace, and is today considered to be one of the most highly advanced systems in the region, providing full digital service throughout the country, advanced data communications, integrated services digital networks (ISDN), asynchronous transfer mode (ATM), and fiber-optic and satellite services. It is clear that the development of telecommunications services has contributed significantly to the development of Israels high-tech industry.
According to the Ministry of Communications, the current telecommunications infrastructure - in a country with a population of some six million - includes:
2.5 million telephone lines
1.9 million cellular users
180,000+ Internet users
1 million cable television users (geographical coverage 88%; in coverage area, 67% of households subscribe to cable TV)
Bezeq landline infrastructure is 100% digital
ISDN and ATM services
High-Tech Exports
Israels first high-tech exports were produced by defense industries such as the Israel Aircraft Industries and Rafael, as well as by defense industry sub-contractors. These firms produced electronic defense products with advanced technologies, meant for use by the IDF.
Demand for "proven in battle" products from Israel led to a developing export industry of defense-related products. today this is still a relatively large percentage of high-tech exports.
Studies have shown that R&D-intensive, high-tech companies have been a major factor in the growth of exports over the years, especially in electronics, optics, electro-optics, lasers, computer-based equipment, robotics and aeronautics.
Moreover, in the last two decades Israeli developments have contributed significantly to the following information technology and telecommunications industries:
Wireless Communications (voice and data)
Advanced Data Communications Technologies (ATM, xDSL, SDH)
Advanced LAN Technologies (ATM, Fast Ethernet, FDDI, ISDN)
Satellite VSAT (Very Small Aperture Terminal)
Voice Mail and Related Voice Manipulation Technologies
DSP - Digital Signal Processing Technologies and Products
Encryption and Data Security
Anti-Virus Technologies
Software Utilities for Mainframe and Mid-Range Computers (including year 2000 problem solving utilities)
Databases for Mainframe and Mid-Range Computers
Internet Technologies
Internet Products
Educational Software and Multimedia
Graphic Arts and Color Printing Technologies
Billing Software for Telephone and Cellular Operators
Semiconductor Development and Post-Production Inspection Tools CAD, CAM, and CAE.
International Firms in Israel
It has taken several years for the management of international high-tech firms to decide to utilize Israels advantages as an operations base. Of course, events in the Middle East play a decisive role in international business strategies. The continuing peace process with the Palestinians, since 1993, has encouraged many international firms to establish operations and/or conduct business in Israel.
There has been a US presence in Israel, though, for three decades. Two high-tech giants - IBM and Motorola - established local subsidiaries for sales and technical support in the 1960s; over time the local plants evolved into full research and development facilities. Motorola took the process one step further and established one of its largest manufacturing facilities in Arad, near the Dead Sea. During the late 1970s Intel Corporation began operations in Israel. Today, Intels activities range from R&D (in Haifa) to wafer manufacturing (Fab 8 in Jerusalem); and a plant designated Fab 18 under construction in Kiryat Gat.
Israel is highly regarded as a location for branches of foreign firms. Benefits include highly-skilled engineers, good geographic location and some tax and custom benefits, which enable US firms to sell products manufactured in Israel to European markets without paying duty. Moreover, the government of Israel is considered a generous partner for foreign investors who establish operations in the northern or the southern parts of the country. Government assistance can be in the form of a cash refund or long-term tax-waivers.
In Israel, the presence of international firms is somewhat of a controversy. Opponents in local industry claim that foreign firms gain resources as a result of local "brain power," but do not funnel anything back into the local economy. This position is held because most foreign firms do not build manufacturing facilities, the more massive employers in the local market. Still, despite this dissenting point of view, most Israelis continue to consider the presence of international high-tech firms in Israel to be very important.
Since 1995, many foreign firms have established a presence in Israel. Of these, some entered the market by setting up operations directly, whereas others do so by friendly take-overs of small Israeli firms. Additional firms are listed as U.S. firms, although all development and manufacturing facilities are located in Israel and management is Israeli, or largely Israeli. Many international firms also maintain a presence in Israel by virtue of their minority holdings in Israeli start-up companies. This phenomenon began a few years ago and is expected to continue in the future. These minority shareholders also invariably hold options for share increases.
International firms which established local research and development centers in Israel in the 70s and the 80s brought the know-how and the operating procedures of large conglomerates to local, inexperienced firms. These firms exposed Israeli industry to new areas, primarily in the telecommunications and the semiconductor industries.
Cooperation with Foreign Firms
The Israel high-tech industry can benefit from cooperation with foreign companies at all levels. Some of the success stories of the Israel high-tech industry involve a partnership between an Israeli and a foreign partner, in which the Israeli partner provides the technology or the product, and the foreign partner provides the sales and support functions in target markets. This type of cooperation is a win-win situation for both sides. For US partners or investors it is even more beneficial as the partnership can apply for BIRD Foundation funds.
Motorola, Intel and others have made Israel a preferred site for production facilities. These companies benefit from a high level of technicians and engineers and from proximity to their target markets in Europe. NAFTA agreements made Israel the manufacturing location of choice for products that are to be exported to Europe. It is quite difficult for Israel to compete with South Asian countries on the basis of labor costs, but Israels better product quality is an advantage.
Israel High-Tech Industry towards the 21st Century
The rapidly growing high-tech industry has the potential to grow at an even faster rate, despite the present economic slowdown - which affects the high-tech field less than other industries. In terms of productivity per employee, Israeli high-tech still has a long way to go, compared to international standards. Although output per employee in the industry is $160,000 per annum, some countries boast an output of upward of $250,000 per employee per annum.
Challenges facing the industry as the 21st century approaches:
The shortage of professionals in electronics and software, a common problem in the western world. In Israel, immigrants from the former Soviet Union served as a stop-gap between 1992 and 1995. Since then, immigration to Israel has slowed down and the problem has again arisen. This in turn has increased the cost of salaries to a level where the advantage of a low cost per employee in Israel no longer exists.
The high-tech industry needs to widen its focus on R&D to include marketing, in order to capture a larger market share. Today, some start-ups develop valuable technologies, only to discover that their target market is unaware of them. Most start-ups in Israel boast annual sales of a few million dollars; only a handful of Israeli companies have achieved annual sales of hundreds of millions of dollars; and not one Israeli company is positioned among the worldwide leaders that sell high-tech products in the billions.
The frozen exchange rate of the shekel, until March 1998, negatively impacted profitability of the high-tech industry. In late 1997/early 1998, with the economic slowdown, a reduction in capital investment has occurred, which will affect investment in equipment upgrading and materials in the short term.
The Israel high-tech industry is capable of enjoying tremendous profitability. It already leads the Israeli economy in terms of added value, export rates and productivity per employee. By taking the appropriate strategic decisions, the Israel high-tech industry - with total sales of some $7.2 billion today - can become, in the coming decade, a $10-15 billion industry.
Israeli high-tech is on the way to the forefront of world technology in terms of knowledge and development. Israeli leaders believe that the high-tech industry can lead not only Israel, but its neighbors as well, to a better future. The high-tech industry is no longer a gamble - it has proved its ability. It now needs to expand and firmly establish its position as a recognized world leader.
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