Startup Exits: On-ramp to a Bright Future, or Dead End That Only Lines Foreigners' Pockets?

R&D centers operated in Israel by multinationals are a boon to the local economy in many ways, but selling out has its detractors.

Is it better to sell off local startups to multinational corporations, or to grow them into big Israeli companies? That question is at the heart of one of the liveliest debates gripping the country's tech sector.

Critics of the "exit approach" say it inhibits local job growth, and that Israeli companies that are sold and turned into development centers for global technology players face a constant threat of closure and don’t pay enough taxes in Israel.

But according to figures issued recently by the Central Bureau of Statistics, these centers increasingly contribute to the economy. In fact, during the global economic crisis at the end of the last decade these centers boosted their operations just as local R&D firms contracted.

"We addressed the issue of whether or not selling your company to a global concern contributes more to the [Israeli] economy," says Ronni Zehavi, senior VP and general manager of Akamai Technologies' Security Division.

In 2008 Zehavi he founded Cotendo, which was sold to Akamai in March 2012 for $300 million. Akamai now has 90 employees in Israel, compared to 60 when it acquired Cotendo.

"From my perspective, in the case of Cotendo and Akamai the company's acquisition only helped the economy," Zehavi says, adding that many more jobs have been and will be created as a result than even the rosiest predictions for Cotendo's growth as a solo firm. The average pay also rose, Zehavi notes.

"Also, due to the special talent we have here, as acknowledged by Akamai, two of the global company's important projects landed in Israel. A startup is always dogged by the question of whether or not it will succeed. Joining with a large company eliminates this risk," Zehavi says.

Cotendo and Akamai are not exceptional cases. Development centers of multinationals are the engine that leads Israel's high-tech growth, on which its future depends. Spending, salaries and employment numbers at these centers are all rising. The relative and absolute share of their contribution to the local tech sector rose significantly in the past several years.

According to Central Bureau of Statistics data, spending on R&D centers established by multinationals accounted for 42% percent of all business R&D spending in 2009, compared to 31% in 2005. In the area of computer services, which constitutes the cutting edge of technology, spending on R&D centers established by multinationals accounted for 61% of all business enterprise R&D expenditure in 2009, up from 47% in 2005.

One of Israel's main sources of pride is its high rate of R&D expenditure as a percentage of gross domestic product. The business sector's internal R&D expenditure in 2009, totaling NIS 30.8 billion, came to 3.9% of GDP, putting Israel in top place worldwide. But without the development centers run by foreign companies Israel would have been fifth overall, with R&D expenditure representing just 1.92% of GDP.

Moreover, CBS figures reflect a worrying drop, of about 20%, in R&D spending by local companies 2007 and 2009. In this period development centers increased their R&D spending.

The multinational tech companies even increased their spending in Israel during the worst of the global economic crisis, in 2009. That year the Israeli centers of multinationals spent NIS 13 billion on R&D, up 9% from 2008.

"Israel's human capital draws many multinationals to its borders, which establish development centers used solely as R&D units in order to benefit from the innovating skills and creative thinking of Israeli developers and researchers," the agency's report said.

The biggest expense for these R&D centers is wages. Higher salaries help both the employees themselves as well as the state, as a result of the rise in tax revenues. They also enable the multinational companies to compete for quality labor.

Payroll for the development centers totaled NIS 8.7 billion in 2009, up 14.5% from 2008 despite the economic crisis. The real cost of a full-time employee in the centers in 2009 was NIS 415,000 - 54% more than the business-enterprise average.

Development centers accounted for 37% of R&D positions in business in 2009, up from 26% in 2005. The centers accounted for 20,400 jobs, 8.5% more than in 2008. The figure includes R&D, support and peripheral positions. The statistics bureau attributes the increase to a 26% growth in the computing services industry.

The educational level of R&D center employers is relatively high. In 2009 the number of positions for degree holders was 17,200, or 84% of all R&D-center positions, compared to 73% for R&D positions in the business sector as a whole.

In most cases the exclusive beneficiaries of the output of the multinationals' R&D centers in Israel were the parent companies, which integrated the local developments into their products.

Zvi Roger