Israel is a small country with a small economy, in a difficult geo-political environment. On the face of it, there are many reasons why not to invest in Israel. However, it seems that M&A activity involving Israeli companies is on track for a record year, with $21 billion worth of transactions concluded by October 20151. This represents a 52% increase over the corresponding period in 2014.
A significant portion of the inbound M&A activity in Israel involves the acquisition of Israeli technology companies. Between January and June, there were 54 “exits” involving Israeli technology companies, with a total transaction value of $5.29 billion - more than 75% of the annual total for 2014, when 107 deals netted $6.98 billion, and 86% of the $6.62 billion total for 91 exits in 20132. The chart below shows that 2015 has given Israel’s best-ever exit tally for the first six months of any year3.
Israel continues to live up to its reputation as a “start-up nation.” The main driver for M&A activity in Israel remains the high-tech industry. Israel spends more on research and development as a proportion of its economy than any other country (according to the OECD), and has more researchers for every 1,000 people than any other country. Israeli companies are playing a key role in shaping the new computing model and modifying all layers of the technology stack — from the chip level all the way up to the application level.
However, M&A activity in Israel extends beyond the high-tech world. For example, when one of China’s biggest food companies (the State- owned Bright Food) was looking to boost its dairy output, it turned to Israel, acquiring control of the country’s largest food company (Tnuva) in a transaction valuing Tnuva at over $2.2 billion. Even though Tnuva is focused on the Israeli market, Bright Food was attracted by its efficiency in milk production and cutting-edge technology in quality control, for use in China where demand for dairy products is surging.
The record value of M&A transactions has been driven by a substantial increase in the number of deals over $1 billion. Notable transactions include Teva Pharmaceutical’s recently announced $40.5 billion acquisition of Allergen Generics (not included in the above figures), Bright Food’s acquisition of Tnuva, and the acquisition of Phoenix Insurance Company by Fosun Group. Recently, Mellanox Technologies announced on the acquisition of EZchip for $811 million, which is targeted to close at the first quarter of 2016. Nevertheless, in terms of number of transactions, the M&A activity in 2015 has been dominated by smaller and middle-market deals.
A large portion of the M&A activity is concentrated on the acquisition of Israeli technology companies with limited revenues and profit history. Acquirers are usually strategic players, often global technology giants such as Google, Apple, Microsoft, Facebook and others, looking to acquire state-of-the-art technology. A rare combination of creative talent and entrepreneurial skill has created an environment in Israel in which technological innovation has flourished. One area of particular interest is cyber technology, where considerable efforts are being made, both in the private and public sectors, to ensure that Israeli technology remains ahead of the field.
2015 has seen a marked increase in activity on the part of local and foreign private equity funds. The local private equity scene has seen significant growth in recent years. Global private equity funds have also been active in the Israeli M&A scene, encouraged by the increased maturity of Israeli technology companies that make them more suitable targets for a private equity acquirer, and the increased level of competition worldwide for quality transactions that is driving valuations to record levels. As a general rule, multiples for Israeli companies tend to be lower than in other developed economies. There are interesting investment opportunities in Israel of companies still controlled by the founding shareholders or by the second generation, or owned by Kibbutzim, that are attractive to private equity funds.
An important development over the last few years, accelerating significantly over the last two years, has been the number of M&A transactions in which an Israeli company or entrepreneur has been the acquirer. 65% of the Israeli M&A activity in 2014 was outbound activity4, and this trend continues in 2015. This activity includes a number of major acquisitions by Teva Pharmaceutical, the acquisition by Mellanox of EZChip (the first major acquisition of one Israeli technology company by another), and the recently announced acquisition of Undertone by Perion Network. While many Israeli companies, especially in the technology arena, have a global outlook almost from the outset, historically most of their growth has been organic. However, with the increased maturity of a number of Israeli companies, we are seeing and will continue to see local enterprises growing and expanding by acquisitions.
Geographically, most of the foreign investors in Israel and acquirers of Israeli companies have come from the U.S. However, in recent years we have seen a growing wave of interest on the part Geographically, most of the foreign investors in Israel and acquirers of Israeli companies have come from the U.S. However, in recent years we have seen a growing wave of interest on the part, and financial services companies on the other hand. Today Chinese investors are investigating a wide range of investment opportunities in Israel. In April 2015, one in ten of the delegates at Israel’s biggest agricultural technology conference, Agrivest, came from China. As we have mentioned, Chinese investors have played a significant role in the Israeli M&A scene in 2015, with the acquisition of Tnuva, the acquisition of Phoenix Insurance Company, and the acquisition of Lumenis by XIO.
In the next few years we expect that one of the main catalysts for M&A activity in Israel in traditional industries will be the Law for Promotion of Competition and Reduction of Concentration. The Israeli corporate sector has traditionally been dominated by large conglomerates. The Israel economy has been stifled by the over-concentration of ownership of major Israeli corporation, giving rise to a situation where perhaps 20 families have controlled 25% of the listed Israeli companies and 50% of the total market share in the Tel Aviv Stock Exchange (TA- 25), one of the highest concentrations among developed economies. The stated purpose of the Competition Law is to reduce concentration in the Israeli marketplace and therefore encourage competition. A fundamental provision of the Law is to prevent the holding by one entity of both significant financial enterprises and industrial (non-financial) enterprises. As a result, a number of major financial institutions (banks and insurance companies) and industrial enterprises will inevitably be sold off or otherwise divested in the coming years. The requirement to comply with the Law by December 2019 creates the potential for many large transactions, and is likely to attract new foreign investors. We are already seeing this in 2015 in the insurance sector. Phoenix Insurance Company was acquired by Fosun Group for $0.5 billion, and a bidding process is expected to unfold shortly for Clal Insurance Company. Israel’s new Minister of Finance, Moshe Kahlon, came into office announcing a policy to break the monopoly of Israel’s major banks over the local credit market. The first step in this direction will be a requirement for the Israeli banks to sell their credit card operations, which are a lucrative source of income in the financial sector. The increased activity in Israel on the part of private equity funds will encourage a steady flow of M&A activity, as most funds are obliged to exit their investments within a 7 to 10 years horizon.
Foreign investors looking to invest in any regulated industry in Israel must always be aware of Israeli regulatory requirements and the accompanying bureaucracy. For example, the acquisition of 5% or more of the shares of an insurance company requires a permit from the Controller of Capital Markets, Insurance and Savings at the Ministry of Finance. In mid-2014, the Controller refused to approve a Chinese consortium as the acquirer of Clal Insurance. The acquisition of 5% or more of the shares of a bank or a bank holding company requires a permit issued by the Governor of the Bank of Israel after consultation with the Bank of Israel’s Licensing Committee. The acquisition of certain percentages in companies providing telecommunications services may require a licence from the Ministry of Communications and Ministry of Defence. Where a company controls natural resources or operates services that are deemed to be in the “National Interest,” the State of Israel may retain certain veto rights and other powers.
In 2015, we have seen a significant growth of M&A activity in the life sciences and banking and financial services sector, but looking ahead, we believe that the technology sector in general, and the cyber security in particular, will continue to lead the Israeli M&A scene. The Israeli M&A scene is highly influenced by global factors, and predictions are difficult. But the business sector is vibrant. The level of interest in Israeli companies is unprecedented, Israeli companies themselves are looking to acquire, and not just to be acquired. Israelis are both optimistic and realistic, but the outlook for M&A activity, both inward and outbound looks bright.