Israel: no longer a start-up nation

For many years, Israel's world-famed high-tech industry has been the apple of VCs' eye. And with the highest concentration of high-tech start-ups per capita in the world, investors in Israel have been spoilt for choice. But the country is no longer the domain of high-tech investors alone; buyout houses are also decoding the Israeli opportunity.

With a population of around 8 million, and 2014 forecasts from the International Monetary Fund expecting GDP of $288bn and GDP per capita of around $35,000, the Israeli economy is small but active. Pre-crisis, the country's average annual growth rate of 5.3% per year towered above Europe's 1-2%, and will continue to do so should KPMG's forecast of 3.5% GDP growth in 2014 prove correct. With low unemployment, low gross external debt and inflation under control, the economic climate is undeniably attractive.

But, perhaps the most promising development for private equity is Israel's growing population. By 2050, the country is expected to be home to 53% more citizens than it is today, reaching around 13 million. "If you have a basic stable economy with core GDP growth, low inflation and population growth, it's an intelligent place to make long-term investments in basic industries: insurance, supermarkets... Basic things within Israel," said Hillel Schuster, principal in corporate finance at KPMG speaking at the Israel summit.

Indeed, as more buyout-friendly sectors emerge as investment opportunities, a handful of international giants are targeting Israel. Permira, TPG Capital and Warburg Pincus are among the international players to have already committed capital in the country; the largest such deal saw KKR buy Alliance Tire Group for $500m in 2013, which accounted for 23% of annual deal value.

And the interest of global giants is rising, with Apax targeting $500m for its Israel buyout fund, according to partner and panellist Nico Hansen. Blackstone too is understood to be mulling an Israeli office. But as current dealflow remains at fairly low levels, with around 50-60 deals annually valued at $2-2.5bn, according to KPMG, is the pipeline strong enough to satiate growing interest?

Competitive dealflow
Israel certainly looks set to become a buyers' market thanks largely to the Law for the Promotion of Competition and Reduction of Concentration, passed in December 2013. The law aims to reduce monopolies and promote competition in various sectors of the economy by imposing ownership limitations and prohibiting pyramid structures within public companies: "The aim of the law was to stop large enterprises from becoming too large and threatening democracy or individual sectors with monopolistic power," said Alan Sacks, partner and head of international practice at Herzog Fox & Neeman. "There are a number of cases where, over time, there will have to be a spin-off. Nobody is going to wait until the last minute, and we can already see serious moves to dispose of some of these assets."

Perhaps most promising though for private equity players looking to exploit the pipeline thrown open by the law is the inherent lack of competition. Said Sacks: "Many assets are for sale, but of course many of the traditional buyers are prevented from buying because of the law itself. The field is open now for private equity investors to invest in a wide array of investments with essentially no local opposition, because nobody in Israel can buy. And even if they could, there is clearly local resistance to financing. We are seeing a level of deal activity that I, in 30 years, have never seen before."

Billion-dollar assets
The overwhelming and returning critique of the start-up nation is the lack of billion-dollar companies. But recent developments in the private equity space indicate that might be set to change: "We're seeing the market change from a traditional venture capital industry funding early-stage companies to more and more firms getting larger," said Eylon Penchas, general partner at Viola Partners. "The industry is understanding that Israel can and should build billion-dollar companies but what is required to build them is much more growth capital and private equity capital to support the expansion."

From supermarkets and mobile networks to insurance firms and financial institutions, there is a wealth of opportunity for private equity buyouts in Israel. "There is no area that is not open for new investment; old economy, new economy, real things, abstract things... it's all there," said Sacks. Driven by rising GDP and a growing population, the nation looks set to shed its start-up image. For LPs seeking alpha from Israel, it's time to forget the high-tech specialists entirely.

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