Only 10% of Optics Firms Expected to Survive

Two of the largest capital drives conducted by Israeli start-ups over the past year are now nearing completion. This week, Atrica, which develops optic systems for Optical Ethernet metro data networks, will be completing a third round of financing, involving some $70 million and based on a company value of $100 million, before the money.

Atrica's lead investor in this round is the U.S.-based St. Paul VC fund, which is said to be investing between $13-15 million in the optics company. Other groups currently investing in Atrica are the Israeli VC fund, Gemini, together with past investors such as the U.S. funds, Benchmark and Accel, Bezeq Communications, the Finnish investment firm, Telia, and France Telecom.

The Jerusalem-based start-up, Chiaro, which develops optic switching systems for telecom companies, is now poised to complete a fourth round of financing, totaling some $80 million, based on a company value of $125 million, before the money. Chiaro is the Israeli record holder for attracting high-tech investment capital: In 2000, the company raised $100 million, based on a company value of $400 million. Investors in the company in 2000 included Pitango VC (formerly Polaris), which led with an $11 million investment, as well as Sevin Rosen, Intel and Star Ventures. These past investors are about to invest $40 million in the current capital drive.

Both Chiaro and Atrica specialize in producing complete communication systems based on optic components. This field was once considered one of the bright lights of the Israeli high-tech industry, reaching new heights of prestige when, in 2000, Chromatis was sold to Lucent for $4.7 billion in stock.

However, the crisis in the communications market has dealt a serious blow to the optics sector. Communications suppliers have frozen purchases of new equipment, and the large manufacturers of communications hardware have stopped buying the products of start-ups, as well as the companies themselves. Meanwhile, the investors in the optics companies - mostly VC funds - have lost interest in backing the companies and have suspended investments in new start-ups.

As a result, many Israeli optics companies have hit hard times, while others have shut down. The relatively veteran company, Trellis Photonics, has experienced difficulties and has reduced its payroll by dozens of employees in order to survive.

In recent weeks, however, new rays of hope have begun to shine on the optics sector. Chiaro and Atrica's successes in attracting new investments, the opening of the new CyOptics chip factory in Yokne'am with an investment of $10 million, and Cisco's upgraded profit forecasts appear to indicate early signs of recovery.

At the same time, industry insiders argue that the Chiaro and Atrica investments are exceptions that prove the rule. "Of the 650 or so optics companies in the world, only 10 percent are expected to survive," says Robyn Hacke, a partner at Portview Communications, a VC fund that works in the communications sector. "We're talking about companies that require a great deal of money in order to develop components and systems," she adds.

"One American company in which we invested at the seed stage recently raised $26 million. For now, the concern is that 2002 will be a very difficult year in the sector because the telecom companies have drastically reduced their acquisitions. Cisco's success stems primarily from grabbing the market shares of its competitors, not from an expansion of the market. It's too early to speak of a recovery, only of hopes of a recovery," Hacke notes.

Adam Fisher, who oversees the optics sector at the Jerusalem Venture Partners VC fund, does not foresee any imminent changes. "The market is in a holding pattern," he says. "Atrica and Chiaro produce inclusive, expensive systems that require a great deal of money; but they are also the two most promising companies in Israel in the field of systems.

"The component companies depend on orders from the large equipment manufacturers, so things are tougher for them and some of them are closing. They also need a lot more money now. The typical seed investment in a component company used to amount to around $3.5 million. Right now, the working assumption is that this type of company already requires between $8-16 million by the early stages. At present, communications manufacturers are not willing to even consider the acquisition of companies that do not have sales," Fisher says.