China Blazes a Trail to Startup Nation

Like U.S. companies a decade or more ago, China’s tech giants are looking for innovation from Israel. Huawei and Fosun are already here; Alibaba, Baidu and Xiaomi will join them soon.

Reuters

New names have climbed to the top of the global technology industry. Luminaries like Microsoft, Intel and Motorola – along with younger names such as Google and Facebook – have been joined by the likes of China’s Alibaba, Baidu, Huawei and Xiaomi. Indeed, China’s tech champions have made their presence known on Wall Street as much as they have in Silicon Valley, based on the tremendous economic potential of their home country.

And as they roam the world in search of technology to lead keep them ahead of rivals in the ever-in-flux high-tech market, China’s giants are following the path cleared by their Silicon Valley peers to Israel.

Chinese tech companies have been sniffing around Startup Nation for some time, but in recent months they have moved into a new phase: Since 2012, some 30 Chinese investors have entered the Israeli high-tech scene and put money into over 80 startups, says IVC Research Center, which tracks Israeli venture capital and high-tech. In 2014 alone, 22 investors from China and Hong Kong participated in 30 financing rounds by Israeli startups totaling some $300 million. In recent years the number of Chinese investors who put their money directly into Israeli startups has been growing by 50% annually.

In 2012 only one Israeli venture capital fund raised money from Chinese investors, but just two years later the number reached seven, and five months into 2015 it has already hit 11, according to IVC, which declines to provide specific money figures. At the current pace of investments, IVC expects the number of Chinese investors in Israeli companies to reach 28, and the number of investments will grow too. This compares to only 10 Chinese investors here in 22 direct investments in Israeli startups in 2012.

Following the U.S. lead

Just like the big U.S. technology multinationals a decade or more ago, Chinese companies are buying out Israeli startups and establishing research and development centers in Israel.

For now, the only major R&D center run by a Chinese company is Huawei’s, which operates under the name Toga Networks. In addition, after Fosun Pharma bought Alma Lasers, which now operates at an R&D center for the company in Caesarea. Lenovo, the huge manufacturer of smartphones and laptops that bought large parts IBM’s business, recently began operations in Israel. Many more Chinese companies are expected to follow in their footsteps.

“From the beginning of the year there has been a significant jump in the level of visibility of Chinese companies in the Israeli market,” says Tal Chen, head of the technology, media and telecommunications industry group at Deloitte Israel. His firm recently set up an Israel-China desk to serve as a bridge between the two countries after Deloitte managers visited China.

“In the past two years more and more giant Chinese [companies] have become significant global organizations. There is a change in the mix of companies that have entered the Fortune 500 and in the number of Chinese companies on the Nasdaq,” says Chen.

“The level of confidence to do deals with such companies is higher, and so is the business potential. The more significant a company becomes, with a larger market share on an international level, it turns into a more important partner for dialogue concerning investments and business.”

In the Israeli high-tech sector, the thinking is that all this activity represents just the tip of the iceberg – a great opportunity but one that carries risks, too. For Israeli startup entrepreneurs, the circle of potential investors is expanding enormously as are potential markets, business partners and buyers for their companies in the case of an exit. More and more Israeli engineers will find themselves employed by Chinese firms with a different organizational culture that they will have to get used to.

Alibaba is a stand-out among the new players in this game. The Chinese online commerce group’s 2014 initial public offering in New York was the largest ever. Even if it is not a household name in Israel, the company has a market capitalization of over $214 billion. That’s far away from Apple’s $732 billion but within shouting distance of Facebook’s $270 billion and slightly ahead of Amazon’s $198 billion.

In January, Alibaba made its first foray into Israeli high-tech, investing a few million dollars in Visualead, a startup that has developed a platform for creating designer QR codes. As part of the deal, the companies started working together and have strategically integrated the Israeli company’s products into the Chinese company’s business.

In March, Alibaba deepened its presence in Startup Nation, investing tens of millions of dollars in the JVP venture capital fund. The company is also examining opening a technological and business development center and has retained an Israeli firm to study the matter, say industry sources. A government official in contact with Alibaba says no decision has been made yet.

As opposed to American firms, Israel’s government is playing a major role in creating the links between Israeli high-tech and the Chinese company. Officials at the Economy Ministry and the Chief Scientist’s Office are actively cultivating connections with Chinese companies and institutions, both private and governmental. The policy is mutual: Michal Adam, manager of business development and marketing at IVC, says most of the Chinese funds have government involvement both in their funding and decision making. Some of the funds belong to the local and city governments.

Another way China’s partnership with Israel is different than America’s is that it is less likely to set up big R&D centers, branded with the American (or European) company’s logo on a giant office building and company cars. A senior executive at one of these large multinational tech firms says the Chinese prefer to buy smaller startups and refrain from merging their operations into the company.

Like private equity

Instead, they prefer to keep the acquired company’s brand, acting more like a private equity investor than a corporate one. Thus Huawei, the Shenzhen-based maker of telecommunications equipment, operates its Israel R&D center as Toga Networks.

Baidu, a Chinese Internet company whose top executives met with Naftali Bennett when he was economy minister in the previous government, invested $3 million in the Israeli startup Pixellot and later joined an investment round in Tabula. In this case too, the calculation was not only a financial one, but part of a strategic business tie-up.

Investments are not just coming from Chinese technology companies, but from other strategic investors, too. Ping An Insurance, for example, has invested in six Israeli startups, including eToro, which has developed a social network for investors.

A similar trend has been noted in Chinese investments in Israeli venture capital funds. Almost all Israeli funds that have raised money in recent years have added Chinese investors, including strategic, institutional and government investors. Eleven Israeli venture capital funds have raised money from the Chinese in recent years, including Pitango Venture Capital, JVP, Carmel, Canaan and Glilot Capital Partners. This year IVC expects investors from China and Hong Kong to participate in about half the fundraisings – or some $750 million – Israeli venture capital funds plan this year.

To a great extent, the Chinese investors are filling the vacuum left as a result of many American investors who have stopped investing in Israeli VC fund and instead are investing directly in Israeli startups – or have changed their investment strategies and left Israel.

“Even Chinese financial investors have a strategic interest. For their part, it is a way to be exposed to what’s happening in the market without dealing directly with due diligence examinations and looking at companies. Those that do invest in startups became confident since they already invested in Asia, the United States and sometimes in Europe too. There is strategic importance behind the move,” says Adam.