A general view shows residential estates in Hong Kong on December 30, 2013.
A general view shows residential estates in Hong Kong on December 30, 2013. Photo by AFP
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Reuters
The Microsoft logo is seen at their offices in Bucharest on March 20, 2013. Photo by Reuters

One of the main challenges facing Israeli high-technology is the mounting competition from India and China, which each year produce thousands of engineers. The competition isn’t only over the pool of manpower and the cost of employment, but also over quality. Over the years Israel boasted that the quality of local engineers was far better than those graduating in India and China, but in truth the multinational tech companies have turned those two countries into key research and development centers for themselves.

This isn’t being felt in Israel – at least not yet. Facebook recently joined 250 other companies operating R&D centers in Israel, a list that includes such luminaries as Intel, Google, Apple, IBM and Cisco Systems.

To gain an insight into how Israel can remain competitive and continue attracting multinationals, TheMarker met with the heads of Microsoft’s only three strategic development centers outside the United States -- in Israel, India and China. Microsoft has 30 development centers around the world, but only three are designated as “strategic.” But while India and China each have 2,000 engineers at their centers - distributed among several sites – Israel has 600, in Herzliya and Haifa.

The main reason for establishing development centers is to gain access to local talent, according to S. Somasegar, vice president at Microsoft and head of its Developer Division, which oversees the company’s strategic R&D centers worldwide. He says the first place the company decided to open a development lab outside the company’s headquarters in Washington State was in Haifa, in 1989, as a test case to learn how to work with people in other time zones.

Besides starting operations in places with the world’s best engineers, Microsoft expands its development activities to regions with large, interesting local markets requiring special modifications. The way Microsoft clients do things or use software varies because of geography or cultural differences, says Somasegar.

The Microsoft development center managers we sat with shattered several myths during our talk. One of those myths concerned costs, a key issue when discussing Israel’s competitiveness with other high-tech centers around the world.

Weighing the cost of an engineer is a short-term approach and is rarely a consideration when making decisions, compared to weighing where the company can find the best people, says Somasegar. This doesn’t mean he wants to waste money, he explains, but long-term decisions can’t be made about where to build a team for the next 20 to 30 years based on cost differentials today.

Israel vs. the U.S.

In any case, the cost of employing an engineer in Israel is very close to the cost in the United States, according to Somasegar. In recent years it’s become more expensive to employ an engineer in China because wages are rising and the local currency has appreciated in value, says Prakash Sundaresan, Microsoft’s chief technology officer for its Asia-Pacific R&D group.

But in a separate interview Yoram Yaacobi, the head of Microsoft’s development center in Israel, sounds less optimistic about the cost issue.

“There’s a red line,” he says. “The question isn’t how much engineers in Israel cost versus those in India or China, but how much we cost compared to the U.S. As long as we cost less or an equal amount, it’s okay. Right now an Israeli engineer costs 5% to 10% less than engineers in the U.S. It depends on the exchange rate of the dollar [versus the shekel], which is now declining. At the same time the number of students graduating in computer sciences is small and the number of development centers is growing. This will increase competition for graduates and in two or three years, we could cost more than in the U.S. and then we’ll have a problem.”

Yaacobi explains that the cost of Israeli engineers is measured against the cost of those at Microsoft headquarters in Redmond, Washington, but that the cost in Silicon Valley, which is 10% to 20% higher than in Redmond, is a threshold that could also be breached. Despite Yaacobi’s worries, however, Microsoft’s operations in Israel has expanded 25% over the past two years.

The presence of multinationals in Israel has grown considerably in recent years and they now account for about 60% of the country’s business sector R&D spending. Another myth burst by the Microsoft executives concerns worries in Israel’s technology industry that multinational development centers could one day be downsized or shut down due to Israel’s delicate security situation or another global financial crisis.

When asked about such a scenario, the Microsoft executives look at each other in amazement. They company proved during the 2008 economic crisis and over multiple periods of security tensions that isn’t a factor. They attributed the worry by Israelis to paranoia. The heads of the centers in India and China note that they haven’t encountered similar concerns in their own countries.

One of the special things about each of the three countries is what’s happening in each of them outside of Microsoft: In Israel it’s a startup environment; in India it’s the developed software and services industry; and in China, for a number of reasons, it’s a different ecosystem from the rest of the world regarding the type of partners working with them and the government agencies, says Somasegar.

“Israel has technological advantages but India isn’t far Yoram Yaacobi behind in its technological capabilities, and is perhaps Israel’s equal,” says Yaacobi “Our advantage is clearly entrepreneurial. The startup ecosystem, the innovation and the entrepreneurs eager to reach an exit are made up of the same people found also at Microsoft, Intel, and Cisco: The DNA and the culture are also inside.”

According to Yaacobi, Microsoft Israel has produced several internal “exits” – projects by small teams that evolved into company products.

In China, however, the main characteristic is harmony.

When there’s a problem in China they want to solve it in the most cordial way possible, explains Somasegar. They are a little bit too polite, he says, but they want to do everything cooperatively.

Relocation helps

Just like in multinationals located in Israel, managers and staff at the development centers in India and China are also closely familiar with the relocation culture – moving to the company’s headquarters overseas for several years to assume a position there. Israelis who went through this process played a central role in establishing Israel’s high-tech industry. In some cases, their taking on of senior positions at the multinationals, including Microsoft, led to the launch of the company’s first development center in Israel.

The appointment of Indians and Chinese to top positions at multinationals could have a similar effect on local high-tech development and growth in those countries.

Microsoft likes to see a movement of people, says Somasegar, and in the world of technology it is desirable for people to become acquainted with new technologies, new places, and new cultures. The company sees movement in both directions, he notes, people coming to Redmond and returning to their countries, and people starting out at Redmond and after several years wanting to see how Microsoft works outside.

All the executives participating in the interview have worked at various periods outside their own countries. Sundaresan, for example, is of Indian background and runs the R&D operations in China.

The centers exchange practices and adapt them to local needs. Sundaresan cites the example of Microsoft’s accelerator program, which got its start at the Herzliya development center. A group of startups come to a facility within the center for several months and receive close guidance in building themselves up in terms of development, contact with the market, and exposure to investors. For 18 months the three strategic sites have been running accelerators, each one a bit different but the idea is similar, says Sundaresan.