From Viber, through ReWalk (a robotic exoskeleton that threatens to make wheelchairs obsolete), to Zuta Labs (a pocket-sized printer), Israeli start-ups are changing the world as we know it. With a population of only 8.5 million people, it is astonishing that 4 percent of all venture capital (VC) deals made outside the US since 2012[1] have taken place in Israel, which rightfully wears its “Start-up Nation” title. Similarities between Silicon Valley and its Israeli tech-centric coastal counterpart have led to the latter being labeled “Silicon Wadi” (with “wadi” being the Arabic for “valley”). There are multiple reasons behind the surprising success of Israel’s start-ups, including government incentives and cultural factors. These factors have led to an influx of creative ideas and products coming out of Israel, helping establish it as VC-friendly and worthy of attention from foreign investors.

The government has done its part in making Israel friendly to VC investments. The tax cuts of the mid-1980s were followed by the Yozma program, the main premise of which was to use government funds to double any foreign direct investment (FDI) in an Israeli company. On top of this, the government enacted a series of reforms in the early 2000s that helped open up and privatize a significant part of the Israeli economy. Such comprehensive government incentives have made Israel one of the most VC-friendly countries in the world.

Consequently, there is no shortage of either foreign (Microsoft Ventures, Sequoia) or domestic (Singulariteam, a Tel Aviv-based VC investment fund) investors into Israeli start-ups. Some of the most successful examples include News Digital System (NDS) and Chromatis Networks. NDS was established in 1988 and developed software for the pay TV industry; it was bought by Cisco for USD 5 billion in 2012. Chromatis Networks was founded in 1998 as a developer of next-generation transport solutions. Its founding investor was Jerusalem Venture Partners, a VC firm known for leading some of the most successful exits in Israeli history, including the sale of Chromatis Networks to Lucent Technologies for USD 4.5 billion in 2000.

Several cultural factors also account for the abundance of companies churning out innovative ideas and products in Israel—yet another reason why investors should be looking into this sector. Military service, mandatory in Israel due to the country’s geopolitical circumstances, helps instill teamwork skills into Israelis long before they have started working or even gone to university. This camaraderie represents a precious quality in the start-up world, as it allows team members to put their differences aside, focusing on getting work done and achieving the task at hand.

In more practical terms, the army can be partly credited with producing highly qualified cyber security experts by investing heavily in military research and development (R&D) (Saudi Arabia is the only country in the world whose military expenditure per capita tops Israel’s.)[2] Indeed, Israel’s geopolitical circumstances (characterized by unfriendly surroundings and limited natural resources), make innovation far more significant for this country compared to other start-up hubs, such as the US or Switzerland. Consequently, Israel produces technologies that are known to be the best in the world. One example is the infamous Iron Dome, Israel’s mobile air-weather air defense system designed to intercept and destroy short-range rockets and artillery shells fired from as far as 70 km away). Later on, these experts move on to the private sector, joining their colleagues who graduate from Israel’s elite universities, such as Technion in Haifa (which even has a Start-up MBA program). These factors taken together also help explain why Israel’s start-ups are focused heavily on Internet Technologies and why investors should be looking into this particular sector as well.

Israel’s openness to immigration should not be downplayed, either. Since the State of Israel was established in 1948, approximately 3.5 million Jews made aliyah or migrated there from every corner of the earth. The first statehood years were marked by aliyah from the post-Holocaust Europe and the Arab and Muslim worlds. This was followed by waves of aliyah from Ethiopia and the USSR, to now be dominated by aliyah from France. It is easy to see how such an incredible mix of people with diverse backgrounds and experiences bolsters the nation’s creativity. Some might even argue that the typically Israeli chutzpah (a term loosely translated into English as “audacity”) is also an important factor in Israel’s success as a start-up hub, as this is what it takes to go public with an idea, attract investors, overcome failure(s) and exit at a right time. These cultural factors additionally make Israel’s start-up sector attention-worthy.

These factors have helped make Israel’s start-up sector bloom, even as the rest of the world is struggling to attract VC investments. While VC investments fell 30 percent in the fourth quarter of 2015 globally, Israeli start-ups raised a record USD 1.2 billion in the same period of time-- a ten percent increase year-on-year.[3] This sector is even comparatively more successful in Israel than it is in the rest of the world. Investors come in all shapes and forms: local venture funds, large international groups, Crowdfunding. One of the most prominent online equity crowdfunding platforms is the Jerusalem-based OurCrowd, which requires its Israeli portfolio companies to donate a portion of their equity as part of the closing of any funding round. This makes outside investors, who sometimes lack experience investing in tech companies, more comfortable doing so.[4]

Israel’s “Start-up Nation” title is rightfully deserved and due to the comprehensive government incentives that have made it VC-friendly; the teamwork culture and the abundance of IT experts produced during compulsory military service; Israel’s openness to immigration; and the engrained domestic “chutzpah.” This unique combination of factors has made Israel an attractive destination for VC with hard-to-match returns, and for this reason, investors should be paying attention to this highly profitable sector.