The venture capital industry didn't quite know how to react yesterday to Finance Minister Silvan Shalom's announcement on Monday of a tax exemption for foreign investors in Israeli funds.
Should they breathe a deep sigh of relief, or should they calculate the damage the industry has suffered in the last year-and-a-half? Should they ponder how much they lost over the long years the tax problem kept investors out of Israel?
The tax problem became an major issue in 2000 when there were a record number of exits and the total value of Israeli companies sold to foreign companies hit $12 billion.
The problem became especially acute after the Chromatis deal. Some investors lost a large portion of their profits because of protracted negotiations between the venture capital fund, Jerusalem Venture Partners, with the income tax authorities, which paralleled the sharp decline in the value of Lucent shares.
The complications of the Chromatis deal had such a profound effect on foreign investors that some Israeli fund managers labeled it "a disaster for the Israeli high-tech industry."
Since then, the tax problem has come up in almost every meeting between foreign investors and Israeli fund managers. In the last year, investors worldwide have lost their appetite for investments in the high-tech industry. In Israel, the tax problem and the intifada have meant that investors have been fleeing the sector even faster than elsewhere.
In the third quarter of 2000 investments in the high-tech sector totaled $463 million. In the second quarter 2001, they slumped to a mere $106 million - and even that took a lot of effort. Hence the finance minister sounded like someone locking stable doors after all the horses have fled.
But states are not publicly traded companies and do not operate in quarters. Especially now, in light of the deepening financial crisis and the sense of recession following the attacks on the United States, the exemption granted to foreign investors sends out a strong message to the venture capital industry worldwide.
This perhaps is the most significant contribution of the minister's announcement. A similar message at the beginning of the `90s created the local venture capital industry. The government of the late Yitzhak Rabin set up the Yozma venture capital funds, which invested in venture capital together with foreign investors on a dollar per dollar basis.
Yozma brought to Israel a lot of foreign investors who were persuaded to invest in the country by the government's move. Another factor that strengthened their faith in Israeli industry was the increasing budget of the Chief Scientist of the Ministry of Industry of Trade.
These two acts by the government created a sense of security and trust in its determination to develop the local industry and persuaded many a foreign investor to invest in Israeli technology.
The decision by the Finance Minister to grant a one sided exemption after the failure to reach a mutual taxation agreement with the United States could turn out to be a move that creates a bridge of trust. But this is just the first step. At a time of deepening recession and in an atmosphere of global crisis, the state must take further trust building and growth promoting measures: initiation of wide scale infrastructure projects, increasing research and development budgets and helping Israeli companies to compete with foreign companies.
Most of important of all, whatever steps it takes, it must act with far greater speed and determination than it did in handling the tax problem.