Start-up Nation

by Dan Senor, Saul Singer

  While Google has become a growing empire of products and technologies—from search, to Gmail, to YouTube, to cell phone software, and much more—the heart of the company remains its ubiquitous home page. And if the most trafficked home page in the world is Google’s temple, the search box on it is the holy of holies.

  It was somewhat ambitious, then, for Google Israel to take on a project that went right to the heart of the company, to the search box. The Israeli team took a small experimental idea that had been sitting untouched for two years—Google Suggest—and made it something that millions of people see and use every day.

  For those who have not noticed it, Google Suggest is that list of suggestions that pop down as you type in a search request. The suggestions update as you type in each letter of the request, just about as fast as you can type.

  Google is famous for delivering results almost instantaneously. But Google Suggest had to achieve this feat with each letter. Information had to go to Google’s servers and send back a list of relevant suggestions, all in the split second before the next letter was typed.

  Two months into the project, the team got its first break. Kai-Fu Lee, who was the president of Google China, said that he was willing to take the risk that queries would be slowed down. Chinese is very hard to type, so having Suggest to fill words in was particularly valuable in China. Suggest worked, and it expanded quickly to Google’s sites in Hong Kong, Taiwan, Russia, and Western Europe, and soon to Google around the world.

  Microsoft was not far behind in capitalizing on Israel. While the damage from two thousand missile strikes during the 2006 Lebanon war was still being repaired, a defiant Bill Gates arrived for his first visit to Israel. He came with a clear message: “We are not afraid of Google,” he told an Israeli news agency. While he couldn’t resist getting in a dig about Internet search engines being “in a terrible state compared to where they could be,” he also conceded that Google and Microsoft were in fierce competition. And the new battlefront was Israel. Earlier Gates had said that the “innovation going on in Israel is critical to the future of the technology business.”2

  No sooner did the richest man in the world leave Israel than the second-richest, Warren Buffett, showed up. The most revered investor in America had arrived to visit the first company he’d bought outside the United States. Buffett spent fifty-two hours touring Iscar, the machine-tool company he’d purchased for $4.5 billion, and Israel, the country he had heard so much about. “You think of people walking those steps 2,000 years ago,” he said of his visit to Jerusalem, “and then you look at the Iscar factory on a mountaintop, supplying 61 countries—whether it’s Korea or the United States or Europe or you name it. It’s pretty remarkable. I don’t think you can really find that kind of combination of the past and the future, in such close proximity, virtually any place in the world.”3

  But it seems unlikely that it was an appreciation of history that convinced Warren Buffett to choose Israel as the place to change his decades-long policy of not making acquisitions outside the United States. And nor was it, for this apostle of risk aversion, an indifference to Israel’s vulnerabilities.

  You do not have to be Warren Buffett to worry about risk. Every company carefully considers the risks of doing business anywhere far from headquarters, let alone somewhere perceived as a war zone. The question, according to Buffett, is how you think about risk.

  We sat in Jon Medved’s office—at the Vringo headquarters, in Beit Shemesh, a neighborhood between Jerusalem and Tel Aviv—to discuss the risks of investing in Israel.4 But before he would answer our questions, Medved posed one of his own. He pulled out one of the slides from a PowerPoint presentation, the “Israel Inside” presentation he often gives in his role as unofficial economic ambassador.

  FIGURE 9.1

  “Look at this graph,” he told us (figure 9.1).

  “What do you see here?” Medved probed. The horizontal x-axis showed the years 2002 through 2004; the vertical y-axis was unlabeled. And there was a line heading—in a relatively linear, diagonal direction—up into the upper-right corner of the graph. But with no y-axis label, the graph was incomplete. We figured Medved had posed a trick question.

  “Well, there is something increasing over the 2002-to-2004 time frame,” we hazarded. “But the vertical y-axis doesn’t tell us what the ‘it’ is.”

  “Exactly,” he quickly responded. “The ‘it’ could be a number of things. For one: violence. It was, tragically, one of Israel’s most violent periods in our history, during the second intifada and leading up to the second Lebanon war. The graph illustrates the number of rockets that hit Israel over those years.”

  But, Medved told us, the graph also illustrates the performance of Israel’s economy, which also rose steeply in the first half of the decade. He then pulled out another slide that was virtually identical to the first (figure 9.2 ).

  FIGURE 9.2

  The vertical y-axis on this next slide was labeled “Foreign Investment in Israeli High Tech.” Remarkably, during the same period, there was an increase in investments coming in as the rocket attacks were increasing.

  In fact, as we researched other economic metrics, we found that a number of sets of data would fit roughly along this generic graph structure. For example, foreign direct investment (FDI)—another macroeconomic metric—measures the total amount of overseas direct investment in any form that comes into a country. During the period from 2000 to 2005, Israel’s FDI tripled, and Israel’s share of the global venture dollars invested inside Israel doubled.

  Medved was not suggesting that there was a correlation between violence in Israel and its attractiveness to investors. Rather, he believes that Israel has managed to divorce the security threat from its economic growth opportunities. In other words, Israelis are confident that their start-ups will survive during war and turbulence. And Israeli entrepreneurs have managed to convince investors of this, too.

  Alice Schroeder, the author of The Snowball, is the only authorized biographer of Warren Buffett. We asked her about the perceived risk of investing in Israel. “Warren has been in the insurance business for a long time, and looks at every investment decision through that lens,” she told us. “It’s all about assessing risk like you would in an insurance policy. The things you really worry about are the potential for earthquakes and hurricanes. Warren asks: What kind of catastrophic risk is there, and can I live with it?”5

  Iscar, the Israeli company Buffett bought, has its main factory and R&D facilities in the northern part of Israel and was twice threatened by missile attacks—in 1991, when the whole country was targeted by Iraq’s Saddam Hussein during the Gulf War, and during the 2006 Lebanon war, when Hezbollah fired thousands of missiles at Israel’s northern towns. “Doesn’t this constitute catastrophic risk?” we asked her.

  Buffett’s view, she told us, is that if Iscar’s facilities are bombed, it can go build another plant. The plant does not represent the value of the company. It is the talent of the employees and management, the international base of loyal customers, and the brand that constitute Iscar’s value. So missiles, even if they can destroy factories, do not, in Buffett’s eyes, represent catastrophic risk.

  During the 2006 Lebanon war, just two months after Buffett acquired Iscar, 4,228 missiles landed in Israel’s north.6 Located less than eight miles from the Lebanese border, Iscar was a prime target for rocket fire.

  Eitan Wertheimer, chairman of Iscar, who’d made the sale to Buffett, told us that he called his new boss on the first day of the war. “Our sole concern was for the welfare of our people, since wrecked machines and shattered windows can always be replaced,” Wertheimer recalled of his conversation with Buffett. “ ‘But I am not sure that you understand our mind-set,’ I told him. ‘We’re going to carry on with half the workforce, but we will ensure that all the customers get their orders on time or even earlier.”7

  One rocket did slam into Tefen Industrial Park, which was founded by the Wertheimer family and center
ed around Iscar, and a slew of rockets landed nearby. And though, during the war, many workers did temporarily relocate, with their families, to the southern part of the country, Iscar’s customers would never have known it. “It took us a brief time to adjust, but we didn’t miss a single shipment,” Wertheimer said. “For our customers around the world, there was no war.”

  By responding to the threat this way, Wertheimer and others have transformed the very dangers that may make Israel seem risky into evidence of Israel’s inviolable assets—the same assets that attracted Buffett, Google, Microsoft, and so many others in the first place.

  Few illustrate Israeli grit better than Dov Frohman, who was born in Amsterdam just months before the onset of World War II. As the Nazis’ grip on Holland tightened, his parents decided to hide Dov with the Van Tilborgh family, devout Christian farmers they found through the Dutch underground. Dov was only three years old when he arrived at their farmhouse in the Dutch countryside, but he remembers having to cover his dark hair with a hat, since the rest of his adopted family was blond. When the Germans periodically searched the house, he would hide under a bed, in a cellar, or in the woods with his adopted brothers. Years later, Dov learned that his father died at Auschwitz; he never knew for sure where his mother was murdered.8

  After the war, Frohman’s aunt, who had escaped to Palestine in the 1930s, tracked down Frohman’s Dutch family and convinced them to put him in a Jewish orphanage, so that he could emigrate to Palestine. In 1949, ten-year-old Dov landed in the brand-new State of Israel.

  In 1963, as Dov Frohman was about to graduate from the Technion (Israel Institute of Technology), he decided to pursue graduate studies in the United States in order to “bring a new field of technical expertise back to Israel.” He was admitted to MIT but instead went to the University of California at Berkeley, which offered him a stipend. It was a fortuitous choice.

  While still a graduate student, Frohman was hired by Andy Grove to work at Fairchild Semiconductor. A few years later, Grove joined Gordon Moore and Robert Noyce to found Intel. Frohman became one of the new start-up’s first employees. He quickly made his mark by inventing what would become one of Intel’s most legendary and profitable products, a new kind of reprogrammable memory chip. Then, with a senior management position within reach, Frohman announced that he was leaving Intel to teach electrical engineering in Ghana. In his words, he was “looking for adventure, personal freedom, and self-development”—another “person of the Book.”

  Colleagues at Intel thought Frohman was crazy to leave just as the company was about to go public and shower its employees with lucrative stock options. But Frohman knew what he wanted: to start an enterprise, not just work for one. He also knew that if he stayed on the management track he might never be able to return to Israel, where he had a revolutionary idea for the local economy: he wanted Israel to become a leader in the chip design industry.

  By 1973, the time to realize his idea had arrived. Intel was facing an acute shortage of engineers. Frohman returned to Intel, pitched the idea of an Israeli design center to Grove, and quickly organized an exploratory mission to Israel. Delayed by the Yom Kippur War, the Intel team arrived in Israel in April 1974 and quickly hired five engineers for its new design center in Haifa. Intel had never before established a major research and development center in a foreign country. “At the end of the day, we are in the R&D business. We could not risk the company’s future by putting our core mission and operations overseas—out of our control,” recalled one former Intel employee from California. “Israel was the first place we did that. A lot of people thought we were nuts.”9

  The Israel team began with an investment of $300,000 and five full-time employees. But it would become Israel’s largest private employer, with fifty-four hundred workers, by the nation’s thirtieth anniversary. Intel’s investment in Israel, while seemingly a gamble at the time, would go on to become central to the company’s success. Intel Israel was responsible for designing the chip in the first IBM personal computers, the first Pentium chips, and a new architecture that analysts agree saved Intel from a downward spiral during the 1990s, as we chronicled in chapter 1. In the southern Israeli town of Qiryat Gat, Intel built a $3.5 billion plant where Israelis designed chips with transistors so small that thirty million of them can fit on the head of a pin. As remarkably, Israel’s emergence as a critical manufacturing center for Intel proved that nothing could stop its production, even a war.

  “We will trust your judgment, Dov. Do whatever you must do.” That was the message of Intel’s management days after the January 1991 start of the Gulf War.

  Iraq had invaded Kuwait five months earlier. From the moment Frohman heard the news, the worry that he might have to send all his workers home began to creep into his thoughts—during quiet moments driving into work, waiting on the tarmac for takeoff, or before bed at night. He knew that to shut everything down would be devastating for Intel Israel. So he tried to put it out of his mind.

  While hundreds of thousands of U.S. troops deployed to Saudi Arabia in preparation for war, Frohman was distracted by the risk Intel was undertaking. That gamble was a product of IBM’s decision, in 1980, to give Intel its big break, choosing the 8088 chip to power the IBM PC. But the computer giant had forced Intel to license its technology to a dozen manufacturers; even though Intel had designed the 8088, IBM thought it was risky to rely on Intel alone to manufacture the chip. So Intel was able to earn only 30 percent of the total revenues. Security and price leverage for IBM meant lower profits for Intel.

  In 1983, with the 286, its next-generation chip, Intel had managed to convince IBM to cut the number of manufacturers to four, thereby increasing Intel’s own share of the work. And by 1985, after investing $200 million and four years of development in its even faster 386 chips, Intel had been prepared for a gamble. This time, IBM had acquiesced to Intel’s request to become the sole manufacturer of the chip that would power most of the world’s new desktops. This strategy would maximize Intel’s profits, but also its risk. What if Intel could not ramp up its manufacturing capability in time? And the bigger risk was the decision made by Intel’s management in Santa Clara to center much of this new responsibility in Israel.

  The main burden fell on Intel’s Israeli chip plant in Jerusalem, which produced about three-quarters of Intel’s global output by running two twelve-hour shifts, seven days a week.

  But now that output was under threat. Saddam Hussein had declared that if the United States launched an offensive, he would respond with missile strikes against Israel.

  The Israeli government took Saddam at his word. Iraq had Scud missiles that could reach Tel Aviv in under ten minutes, and those missiles might be armed with chemical warheads. In October 1990, the Israeli government ordered the largest distribution of gas masks anywhere since World War II.

  It was a surreal time in Israel. In kindergartens, teachers showed five-year-olds how to put on their gas masks in case of attack, and everyone practiced rushing to specially prepared “sealed rooms” if the sirens went off. The distribution system for the masks was elaborate, with every household receiving a note in the mail telling them where they could pick up the equipment. The IDF placed its Home Front Command offices in malls, so it was not uncommon to pick up some new shoes and a cup of coffee along with a set of gas masks for the whole family.

  Frohman did what every Israeli manager does during or in advance of war: he drew up contingency plans for the “standard” war scenario, in which employees would be called up for reserve duty. Most Israeli men under forty-five serve in the reserves for one month every year. During an extended war, these civilian-soldiers can be called up for as long as the government deems necessary. This exacts a huge economic toll on businesses in Israel—including lost work days and less productivity—even during peaceful times. During a war, employees can be absent for weeks or even months. As a result, some Israeli businesses go bankrupt during war.

  In early January 1991, U.S. and
European commercial airlines suspended or curtailed their flights to the region. On January 11, four days before the United Nation’s deadline for Iraq to withdraw from Kuwait, the U.S. government advised its nationals to leave Israel. On January 16, the Israeli government announced that all schools and businesses, except for certain essential enterprises (the electric utility, for example), must close for the week and maybe longer. The government wanted people at home, off the roads, and poised to hop into their sealed rooms at the sound of air-raid sirens.

  For Frohman, compliance with the government’s directive would mean suspending the production of Intel’s 386 microchip at a critical moment for the company. Frohman expected to have management’s full support for a shutdown, but he also knew that just because an employer is willing to grant an employee sick leave, it does not mean that their relationship will go on unaffected. Especially when the “ailment” is one that could conceivably repeat itself in the future.

  “We already had a number of struggles inside the company over the transfer of strategic technologies and critical products to the Israeli operation,” recalled Frohman. “I was convinced that if we had to interrupt production, even for a brief period of time, we would pay a serious price over the long term.” Frohman had expended time and political capital to persuade Intel’s management to put the future of the company in the hands of an overseas outpost, a dream of his since he’d first left Intel. And it was this outpost that was about to find itself on the receiving end of Scud missiles.

  But Frohman had another—surprisingly far greater—concern: “I kept thinking about the survival of Israel’s . . . still small high-tech economy.” The key stumbling block to further investment in Israel was the lingering impression of geopolitical instability in the region. If Intel couldn’t operate in an emergency situation, then any confidence that multinationals, investors, or the markets had in Israel’s stability would instantly crumble.