Globes, July 14, 2004
No more instant IPOs

Israel Seed Partners' Michael Eisenberg: Companies don't go into the oven and come out IPO-ready.

Israel Seed Partners is one of the enigmas of Israel's venture capital industry. It was considered one of the most promising local firms when it opened in the mid-1990s. Israel Seed general partner Michael Eisenberg was just 27 at the time. Israel Seed Partners general partners Jonathan Medved and Neil Cohen appeared with an impressive lists of connections to be exploited out of Medved's garage. They were able to raise a new fund almost every year. The first two funds comprised private investors, and the third and fourth funds included some of the world's top-tier investors.
The Israel Venture Association (IVC) yearbook for 2003 ranked Israel Seed Partners in fourth place, with 14 investments.

They are known in the industry as "the Jerusalem gang". The reference is to a network of US immigrants, mostly religious, who operate differently than the fighter pilots of Herzliya Pituah. They have strong ties with their homeland, and not every Israeli can relate to their mentality.

Although Israel Seed has made several joint investments with other Israeli funds, it's not really considered Israeli. On the other hand, its partners' characteristics give it a different deal flow than the Herzliya-based funds, enabling Israel Seed to diversify the Israeli deal flow.

Cohen does not completely accept this stamp. "It's true that none of us were born in Israel or served together in Israel Air Force squadrons, and we speak Hebrew with a foreign accent, but we've been here long enough to make contacts in the business."

During the bubble era, Israel Seed stood out even more, becoming one of the most active funds to invest in Internet companies. and Gurunet are just two examples. Eisenberg, a founder, said Israel Seed would definitely continue investing in the sector.

Israel Seed has not had a huge exit. Without breaking the pre-exit silence, everyone knows that it's waiting for the well-publicized IPO. Meanwhile, four years since raising its fourth fund during the height of the hype, Israel Seed has not announced the launch of a new fund, although it knows perfectly well that it will soon have to approach investors for money for a new fund.

Eisenberg says there's no hurry. "We have over $60 million available for investment, not including our reserves. We intend to continue investing in new software, communications, life sciences, and Internet companies. Definitely in Internet. I donít believe we've seen the tip of the Internet iceberg yet. The number of broadband users will double Internet business. The same holds for e-commerce. We are definitely looking for good investment opportunities there."

A star or two

What about exits? Eisenberg, uses one of the more established venture capital mantras to reply, "American venture capital funds well understand the concept of the home run, which freely translated means that 90% of investors returns on investment in venture capital funds come from only 6% of portfolio companies. Juniper Networks (Nasdaq:JNPR), (Nasdaq:AMZN), CIENA Corporation (Nasdaq:CIEN), e-Bay (Nasdaq:EBAY) and VeriSign (Nasdaq:VRSN) are the profit-makers. Every portfolio should have a star or two to show good performance. A professional in the business takes into account that there will be a lot of write-offs. That's how it's supposed to work, especially when companies are discovered at the very early stages, as they are at Israel Seed."

"Globes": Israel Seed has made write-offs. Its fourth fund wrote off $14 million, 7%, by 2002. Could we be a little less academic?

Eisenberg: "It's true we havenít had a Chromatis or Medinol yet, but we hope that will be one. Everyone knows that the yield on the 2000 harvest will be very meager. Venture capital is a cyclical business; it's necessary to wait. We make four or five new investments each year, and we did so during the tough times too. Each partner handles no more than six or seven companies at various growth stages."

The truth is that Israel Seed had one great exit, but it evaporated before they could realize it: Tradeum, sold for $474 million, simply vanished.

Like other funds that invest in very early stage companies, Israel Seed believes there is no other road but the hard road. Eisenberg says, "In order to understand companies in the long run, you have to get in early and accompany them for six to eight years. That's how we believe it's possible to create companies that can return the investment in them. Not every company can create double-digit returns, but en route there are companies like Business Layers that return three times the investment."

Eisenberg isnít complaining. "That's how it is. We know that the money invested in companies is only part of the matter. You have to build the company. You have to take into account at least one U-turn on the way. The era of instant companies is over. You donít put a company into the oven, and then take it out ready for an IPO 18 months later.

"It took us about seven years to build and it wasnít easy. We started out in one place, changed strategy in midstream, brought in an American CEO. Qlusters has been a similar story. We founded the company together with its entrepreneur, and we now helped appoint an American CEO to the company."

Inconsistent, but balanced

Not all of your investments are early stage. You made a private investment in a public entity (PIPE) investment in Commtouch Software Ltd. (Nasdaq:CTCH).

"Correct. We invested in BroadLight in the second round. We invested in Finjan Software when it changed direction. We chose it because Finjan Software chairman and CEO Shlomo Touboul was an experienced and talented entrepreneur, and we matched him up with an experienced CFO. We hooked Finjan up with Alchemedia Technologies, which enriched its capabilities."

Cohen says that what appears to be deviation from early investment stages was an illusion. "It's true there are companies that we appeared to have invested in a late stage, but they were companies that were starting over. It was coincidental that Commtouch was a public company."

As in other cases, the exception paralleled developments in the US. During the crisis, quite a few funds specializing in young companies invested in more mature ones. They did so because it was possible to invest in a promising company that already had a product, and even token sales. Similar things happened in Israel. Carmel Ventures invested in ECI telecom (Nasdaq:ECIL), for instance. Israel Seed hadnít been so consistent, and balanced its portfolio with less risky investments. They now have some promising companies that look like they'll succeed, such as Digital Fuel Technologies, Finjan, Mempile,MobileAccess Networks (which already has $20 million in sales a year), and Native Networks.

In any event, Israel Seed enjoys the freedom to act independently. This freedom enables it to make decisions fast. Unlike other venture capital funds, it doesnít have an investment committee. Its partners decide together whether to make an investment or not. They view their team as more than work colleagues. The fund's website calls the team a family.

How do you make your investment decisions?

Eisenberg says they are careful to examine whether a company has potential customers. "For every idea that comes up that we believe has a chance, we are careful to examine the specific markets. We have close contacts with major pharmaceutical companies, as well as major financial institutions, in order to learn about their needs.

"We donít invent a product and seek a market for it. Instead, we try to locate special needs and solve them. There's a reasonable chance the people who've told us their needs will also be the initial customers. IBM (NYSE:IBM), an investor in Israel Seed, does this in a very sophisticated way. They built an excellent model, and they definitely bring an advantage to portfolio companies."

The model doesnít always work

Does that require deep involvement in companies?

"Yes. That's how it's got to be. We definitely believe that if a fund wants to take care of its money, it must take care to work it properly. Our job is to take care of the company's management backbone, especially by recruiting executives. Most importantly in an era of in which large enterprises are deterred from buying from small start-ups, we must find customers, especially the first ones. Having one major customer helps a company's development." He then smiles and adds, "Despite everything I've said so far, all the explanations about models might be right, but I know that start-ups donít tend to work according to models."

To feel safer, Israel Seed takes care to carry out some of its investments with Israeli or US partners. "We work with Israel's Star Ventures and Pitango Venture Capital, as well as with Benchmark Capital, Lightspeed Venture Partners and other funds. We believe that more than one fund is necessary to ensure sufficient money around the table to support companies."

Israel Seed was the first Israeli fund to understand the difficulties faced by Israeli companies in recruiting foreign managers, and appointed Sigal Widman as VP human resources to support companies' managers. In general, Israel Seed urges its portfolio companies to cooperate. That's how a family operates. It believes in the power of cooperation. For example, all the portfolio companies buy holiday gifts jointly. It remains to be seen whether the family can stick together.

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