Venture Capital Comparative Guide

1 Legal framework

1.1 Which general legislative provisions have relevance to venture capital investment in your jurisdiction?

There are no specific laws that govern venture capital investments per se. The main legislative provisions that govern Israeli venture capital investments generally (as well as private equity and other investments) appear in the following Israeli laws:

• the Companies Law (5759-1999); and
• to a more limited extent, the Securities Law (5728-1968).

Additional legislation that has a significant impact on Israeli venture capital investment includes:

• the Income Tax Ordinance (New Version) (5721-1961); and
• the Encouragement of Industrial Research and Development Law (5744-1984).

1.2 What specific factors in your jurisdiction have particular relevance for, or appeal to, venture capital investors?

Israel's venture capital landscape is characterised by a strong innovation ecosystem, boasting one of the highest concentrations of startups per capita, with many incubators, accelerators and venture capital investors capitalising on the country's:

• high-quality human capital;
• skilled tech workforce; and
• veterans of elite military technology units.

Israeli venture capital-backed companies are typically built to be global facing from day one, targeting international markets due to the limited size of the domestic market. Over the past three decades, the Israeli venture capital ecosystem has steadily expanded and seen a consistent track record of successful exits, including initial public offerings (primarily on US markets) and acquisitions, generating strong investment returns. Government support plays a significant role, providing support through:

• grants and incentives from the Israeli Innovation Authority; and
• tax benefits for both emerging companies and investors.

Notably, Israel offers a beneficial tax regime for foreign investors and favourable tax treatment for employee stock options (Section 102). The legal and regulatory environment is relatively flexible:

• facilitating private fundraising;
• allowing relatively easy hiring and termination of employees; and
• keeping the cost of failure relatively low.

Moreover, the country's compact size creates a close-knit high-tech community where innovation and calculated risk taking are encouraged.

2 Parties

2.1 What types of investors typically provide venture capital investment in your jurisdiction?

Israeli angel investors and Israeli-based venture capital funds (including the Israeli offices of international venture capital funds) are the primary sources of financing for seed and early stage companies. Angel investors are typically high-net-worth individuals – often former founders or senior executives of successful startups – who provide pre-seed and seed capital. The Israel Innovation Authority offers a variety of programmes that allow it to co-invest or offer matching grants alongside private capital, often in collaboration with incubators and early-stage Israeli venture capital funds. Accredited investor ('crowdfunding') platforms enable accredited investors to participate in syndicated venture capital rounds in Israeli startups.

As companies mature, international venture capital funds commonly join or follow Israeli-based venture capital funds and often lead larger funding rounds. Multinational corporations are also deeply involved in the Israeli innovation ecosystem through their corporate venture capital arms. In later stages, Israeli startups attract capital from international growth equity and private equity investors, providing continued support through scaleup and exit.

2.2 What types of companies do venture capital investors typically seek to invest in in your jurisdiction? Is the investment done directly or through foreign holding structures?

Venture capital investors invest in strong founding teams – teams with experienced founders or serial entrepreneurs, often with military tech backgrounds or strong academic ties. The companies offer innovative, scalable tech solutions with strong intellectual property or defensible technology. Israel is an extremely small market, so investors:

• seek an international product-market fit;
• have ambitions to scale abroad; and
• have a clear path to commercialisation and global expansion.

Investors will invest at all stages – from pre-seed and seed rounds through growth stage companies.

Sectors with a strong Israeli presence include the following:

• Cybersecurity: A globally recognised Israeli strength.
• Deep tech: Including semiconductors, quantum and advanced materials.
• AI and machine learning: Applied across multiple verticals.
• Fintech: Including payments, insurtech and digital banking.
• Digital health and medtech: Especially data-driven or diagnostics platforms.
• Enterprise software-as-a -service: Business-to-business software with strong go-to-market strategies.
• Climate tech and agritech: An emerging focus among impact-driven investors.

2.3 How are these companies typically structured?

Israeli tech startups are typically structured as private companies limited by shares. They are commonly incorporated as either Israeli private companies or Delaware C corporations, depending on their target market and investor base.

The share capital is usually structured such that founders and employees hold ordinary shares, while investors receive preferred shares with preferential rights as is customary in venture capital investments, closely following standard terms in the United States (eg, liquidation preference, anti-dilution protection, board representation). Most companies adopt an employee stock option plan to grant options to employees for the purchase of ordinary shares, typically structured to comply with Section 102 of the Income Tax Ordinance to afford the employees favourable tax treatment.

The board of directors initially comprises the founding team. Following external investment, representatives of significant investors are appointed to the board. In some cases, companies may also appoint industry experts as directors or board observers.

If the company is incorporated in Delaware, an Israeli subsidiary is typically formed early on to employ the Israeli-based founders and R&D team. Conversely, companies incorporated in Israel often establish foreign subsidiaries (eg, in the United States or Europe) as they expand their global sales and operations.

3 Structuring considerations

3.1 How are venture capital investments typically structured in your jurisdiction (eg, equity, quasi-equity (SAFE/KISS), debt, other), and how does structuring typically differ between seed-stage, early-stage and later-stage investments?

Venture capital investments in Israel are generally structured in line with practices in other leading tech jurisdictions, notably the United States. Financings are a mix of:

• simple agreements for future equity (SAFEs);
• straight equity rounds; and
• venture debt.

Startups often raise their initial funding through a SAFE or a similar convertible instrument, before proceeding to a priced seed round. Other startups, often those led by strong founding teams, proceed directly to a priced seed-round. Others, particularly at the pre-seed or seed stage, may seek support from an incubator to supplement or even replace initial private financing.

Equity financing rounds at all stages are, with notable exceptions, preferred equity financings. SAFEs extended following equity financing rounds are often used to provide a 'bridge' or interim financing between equity financing rounds in order to avoid pricing a round when:

• there are no external investors investing; or
• the company's valuation may have dropped due to the startup's performance or general market trends.

As companies begin to generate revenue, some turn to venture debt as an additional form of financing that is a less dilutive alternative to equity financing. This form of funding has become increasingly common in recent years. Venture debt financing is generally used to supplement equity financing.

3.2 What are the potential advantages and disadvantages of the available investment structures?

Equity financings:

• Advantages:
• • All shareholder rights are clearly laid out and defined.
  • Valuation is set.
• Disadvantages:
• • Immediate involvement of the investors in management and decision making.
  • More time consuming and cost intensive than the SAFE and other convertible instruments.
  • Company valuation needs to be set.

SAFEs and other convertible instruments:

• Advantages:
• • Documentation is minimal and is therefore generally faster and cost effective.
  • Company valuation need not be set.
• Disadvantages:
• • The terms of the investment are not set in full and are subject to a great extent to the terms that will be set in the next equity round.
  • There is an ongoing discussion with the Tax Authority regarding:
  • • the discount component of the SAFE; and
    • whether it is to be considered interest and subject to withholding obligations.
  • Company valuation is not set.

The valuation issue arising from the use of SAFEs to structure investments is partially mitigated by the current trend to cap valuations in SAFEs on a post money basis.

Israeli government support:

• Advantages:
• • Non-dilutive (grants) or partially dilutive funding.
  • Endorses the startup's credibility and technical merit.
  • Often paired with tax benefits or research and development (R&D) support.
• Disadvantages:
• • The application and reporting processes are bureaucratic and time-consuming.
  • The use of funds may be restricted to certain categories.
  • Limited flexibility and slower disbursement timelines.
  • Required to repay grants upon commercialisation through royalties; moving intellectual property outside of Israel requires a return of as much as three to six times the grant amount.
  • With funding from an incubator, the royalty payments are in addition to equity.

Venture debt:

• Advantages:
• • Non-dilutive or minimally dilutive.
  • Complements equity rounds to extend runway.
  • Can be faster to arrange than equity financing.
• Disadvantages:
• • Must be repaid, typically with interest.
  • May include warrants or require financial milestones.
  • Risky if revenue or growth lags behind projections.

3.3 What specific issues should be borne in mind in relation to cross-border venture capital investments?

Venture capital investments in Israel are generally structured in accordance with global norms seen in other leading tech jurisdictions. However, certain Israel-specific legal and regulatory considerations often arise during the due diligence process and should be carefully addressed by investors.

Key issues include the following:

• Israel Innovation Authority (IIA) grants: Companies that have received IIA funding are subject to restrictions regarding the transfer of intellectual property and knowhow outside of Israel. Such transfers:
• • typically require prior IIA approval; and
  • may trigger repayment obligations and fines.
• Employee stock option plans (ESOPs): To benefit from favourable tax treatment under Section 102 of the Income Tax Ordinance, ESOPs must be:
• • properly structured; and
  • filed with and approved by the Tax Authority.
• Failure to do so can result in adverse tax consequences for both the company and employees.
• Labour law considerations: Israeli labour laws are materially different from those in many other jurisdictions. They impose mandatory employee rights (eg, severance, pension, vacation and notice periods) that cannot be waived and require tailored local legal guidance.
• IP ownership from public institutions: Special care should be taken where current or former employees, consultants or founders are (or were) affiliated with Israeli universities, research institutions or government bodies at the time relevant intellectual property was created. These affiliations may give rise to third-party IP rights or commercialisation claims under Israeli law.
• Israeli tax considerations: Without getting into a complete analysis, Israeli tax counsel should be consulted as to whether the investor (if not an Israeli resident) could be viewed as having a permanent establishment in Israel for tax purposes.

3.4 What specific issues should be borne in mind when multiple investors are involved (eg, pooling)?

• Israeli law limits the number of non-qualified investors that may be offered securities by an issuer to 35 offerees in any one-year period. This limit is rarely implicated in a venture capital investment as investors are generally qualified investors.
• An Israeli company with more than 50 shareholders (excluding individuals who are employed by or who were formerly employed by the company and who became shareholders while being so employed) must deliver its financial statements on an annual basis to the Companies Registrar.
• When multiple investors participate in a funding round, various legal, governance and practical considerations should be carefully addressed to ensure alignment and minimise future conflicts, including the following:
• • Board: Increased investor representation on the board of directors may cause inefficient management, so care should be taken to limit the size of the board.
  • Voting: Various decisions require certain majorities and thought should be given to the required majority for such actions.
  • Entitlement to preferential rights: Consider setting thresholds for the right to participate in and maintain certain rights, such as:
  • • pre-emptive rights;
    • rights of first refusal and co-sale rights; and
    • information rights.

4 Investment process

4.1 How does the investment process typically unfold? What are the key milestones?

Pre-investment phase:

• Sourcing and outreach: Investors identify opportunities via:
• • deal flow received from accelerators, incubators other investment funds, portfolio company founders, lawyers and accountants;
  • active scouting by the funds themselves; or
  • founders proactively approaching the fund.
• Initial screening: Assessment of:
• • the technology;
  • barriers to entry;
  • the team;
  • market opportunities;
  • the competitive landscape;
  • traction; and
  • the fit with the fund's investment thesis.
• Intro meetings and pitch:
• • Founders pitch the company and answer preliminary questions.
  • A pitch deck and sometimes a data room are shared at this stage.

Term sheet negotiation:

• If there is interest in moving forward, the investor issues a term sheet outlining the following:
• • valuation and investment amount;
  • share class and rights (eg, liquidation preference, anti-dilution);
  • governance rights (eg, board seats, veto rights); and
  • key conditions (eg, due diligence, employee stock option plan refresh).
• The term sheet is typically non-binding, except for confidentiality and exclusivity (no-shop) clauses.
• Many venture capital funds conduct preliminary legal due diligence at the term sheet stage to identify any fundamental legal issues or red flags before proceeding to a full investment process.
• Negotiation of definitive agreements based on the term sheet in parallel with completion of due diligence.

Closing:

• Once conditions precedent are met, funds are wired and shares are issued.
• Often investment rounds will be structured with multiple closings to allow additional investors to join following the initial closing.

4.2 What types of due diligence (eg, legal, financial, technical) do venture capital investors typically conduct into prospective portfolio companies? What are key red flags for venture capital investors?

On a business level, before investing in potential portfolio companies, venture capital funds typically conduct a thorough investigation of:

• the company's business (including, where relevant, calls with customers); and
• the (potential) market, particularly with respect to:
• • the size of the market;
  • the potential for growth; and
  • barriers to entry.

Venture capital funds also typically invest a substantial amount of time in evaluating and sizing up the entrepreneurs and the potential portfolio company's management team.

Once venture capital funds have resolved to invest in a company, as part of the investment process, they usually conduct a legal due diligence review in which they primarily examine:

• IP ownership;
• the company's capital structure;
• privacy and data protection compliance;
• commercial relationships;
• employment matters;
• government funding and regulatory compliance; and
• litigation and other legal exposures.

For those companies with an operating history and a more robust technology portfolio, venture capital funds typically retain:

• an accounting firm to investigate the company's financial and tax condition; and
• a law firm to investigate the company's IP portfolio.

The nature and extent of the due diligence investigation vary considerably from fund to fund. Major issues that arise in legal due diligence in relation to the company's capital structure or its IP rights may be deal breakers. Otherwise, legal due diligence serves primarily as an opportunity for reorganisation or 'clean-up' in the company, particularly in relation to capital structure and keeping proper corporate records.

4.3 What documentation is typically prepared during the investment process and who is responsible for preparing this?

Typically, the main investment terms are built into the following documents:

• the share purchase agreement;
• the articles of association; and
• the investor rights agreement.

Many investments also include additional ancillary documentation, including:

• repurchase agreements and employment agreements (or amendments thereto);
• indemnification agreements for board members;
• management rights letters; and
• IP assignments.

As a general rule, the investor typically prepares:

• the initial drafts of the main transaction documents;
• the indemnification agreements for board members; and
• management rights letters.

The company usually prepares the remaining ancillary documents. However, in later-stage financing rounds, the parties often agree to follow previously negotiated documents as closely as possible. In such cases, it is not uncommon for the company to take the lead in drafting the main transaction documents as well.

4.4 Are standard investment documents available for venture capital investments in your jurisdiction? If so, who (eg, industry association, organisation) provides them and how frequently are they used in practice?

Although there have been several attempts to create standardised investment documents, the industry does not use one set form of documents.

4.5 What disclosure requirements and restrictions may apply throughout the investment process, for both the venture capital investor and the prospective portfolio company?

• The prospective portfolio company is expected to provide full, accurate and non-misleading disclosures in response to diligence requests. Generally, a detailed due diligence request list is delivered to the company.
• In addition, the share purchase agreement requires that the company provide:
• • detailed representations and warranties; and
  • disclosures against such representations and warranties in the form of a disclosure schedule or a schedule of exceptions.
• The due diligence process in conjunction with the representations and warranties in the share purchase agreement and the disclosure against them provide a high level of comfort to the venture capital fund performing due diligence.
• Failure to disclose material facts could give rise to claims for breach of representations and warranties and, under Israeli law, could also lead to claims of intentional misrepresentation or fraud in extreme cases.

4.6 What advisers and other stakeholders are involved in the investment process?

On the company side, other than the founders, management, the board of directors and the shareholders, who are all internal stakeholders, the company at times will engage finders at early stages or investment bankers for growth-stage rounds or strategic transactions. Legal advisers and accountants are also typically involved in the investment process.

On the side of the venture capital funds, other than the internal team of the venture capital fund, a variety of advisers may be assembled depending on the particular company and its field of business. Legal advisers will:

• perform legal due diligence; and
• negotiate and draft documents.

Accountants will perform financial and legal due diligence. At times, expert third parties will be brought in for commercial product or technological due diligence or for patent review or a freedom to operate study.

4.7 What is the process and what (corporate) approvals are required for a portfolio company to issue shares or debt instruments to investors in your jurisdiction?

In Israel, the board of directors is the corporate body legally empowered to:

• approve the issuance of shares to investors; and
• authorise debt instruments with lenders.

However, in practice, such transactions often also require shareholder approval due to several common factors, including:

• the need to increase the company's authorised share capital or to reclassify share classes to accommodate the issuance of a new class of shares; and
• the existence of shareholder veto rights (protective provisions) that contractually require consent for equity or debt transactions.

Accordingly, both board and shareholder resolutions are typically required to complete a financing round or debt transaction in compliance with:

• Israeli corporate law; and
• existing shareholder agreements.

5 Equity investment terms

5.1 What key investment documents and terms (eg, valuation, share class, governance rights, liability concept, transfer restrictions, exit rights) typically feature in venture capital equity investments in your jurisdiction?

Key investment documents include the following:

• Share purchase agreement: This contains the commercial agreement of the parties, including:
• • the investment amount;
  • the company valuation;
  • the size of the option pool;
  • the representations and warranties of the parties;
  • the closing conditions; and
  • certain post-closing covenants.
• Articles of association: These typically set out the rights attached to the company's shares, including:
• • dividend and liquidation preferences;
  • anti-dilution protection;
  • investor protective provisions;
  • board composition;
  • pre-emptive rights;
  • rights of first refusal;
  • no-sale and co-sale rights; and
  • bring-along rights.
• Investor rights agreement: This contains those rights which may be of more general ongoing application to shareholders of the company but that are inappropriate for the articles of association, including:
• • registration rights;
  • information and visitation rights; and
  • various covenants applicable to certain investor groups such as:
  • • rights related to taxes (controlled foreign company or passive foreign investment company provisions);
    • Foreign Corrupt Practices Act provisions; and
    • rights related to specific compliance issues (eg, compliance required of certain Israeli institutional investors).

5.2 What type of security is typically issued to new investors as part of venture capital equity investments in your jurisdiction and what (economic) preference rights are typically attached to these securities (by operation of law, under constitutional documents and/or contractually)? What rules and requirements apply in this regard?

Investors are usually issued preferred shares, which carry economic and governance rights that are superior to those granted to holders of ordinary shares. Founders generally hold ordinary shares, as do employees and others exercising their options. Simple agreements for future equity (see question 3.1) ultimately convert into preferred shares at the next round of financing.

The most common economic right is the liquidation preference, which entitles the investor to receive their original investment amount (prior to any distribution to ordinary shareholders) upon a liquidation event, such as a sale of the company or winding-up. The most common variant of the liquidation preference is the 1x non-participating preferred, sometimes on a pari passu basis among the series and sometimes tiered, and at times with an interest rate attached to them. Participating preferred, once common, is no longer common. Multiples of liquidation preference are rare and are usually applied in cases where a company's valuation is particularly high and it is unable to raise capital under other terms. These preferential rights are not granted by operation of Israeli law, but are contractually agreed upon and embedded in the company's articles of association. There are no specific statutory rules under Israeli law that govern preferential rights in private companies. However, once included in the company's articles of association, such rights are legally enforceable as part of the company's governing documents and govern the rights of all shareholders.

5.3 What anti-dilution measures or rights (eg, pre-emptive rights, down-round protection) typically feature in venture capital equity investments in your jurisdiction?

Investors almost invariably require anti-dilution measures, including pre-emptive rights, and broad based weighted average anti-dilution protection in the case of a down-round issuance of shares.

Pre-emptive rights: These are granted to investors (holding above a certain threshold or a minimum number of shares) to participate in future financing rounds. Typically, the participation right is allocated on a pro rata basis and entitles the holder of such pre-emptive rights to maintain their current holdings in the company; other times, the investor obtains a right of overallotment to purchase shares that other holders of such pre-emptive rights elect not to purchase. Companies typically attempt to resist the request for over-allotment rights. These rights are generally subject to certain standard exclusions, such as:

• issuances upon exercise of employee share options;
• issuance upon conversion of preferred shares; and
• occasionally, certain issuances of warrants to strategic partners in transactions not primarily intended as financing transactions.

Anti-dilution protection: This is typically implemented by adjustments to the conversion rate under which the preferred shares may be converted into ordinary shares. The protection ranges from full ratchet (which is a rare form of protection) to broad-based weighted average (the standard protection in the vast majority of transactions).

5.4 What are the key features of the liability regime (eg, representations and warranties, disclosure concept, liability caps, remedies) that applies to venture capital investments in your jurisdiction?

It is standard practice in Israel for the company to provide indemnification as the sole remedy for breaches of representations and warranties given in the investment agreements. The cap on liability for such indemnification undertakings is typically limited to the purchase price paid by the investor.

The survival period for standard representations and warranties usually ranges from 12 to 36 months following closing. In contrast, fundamental representations generally survive for a longer period – typically 48 months to seven years, aligning with the statute of limitations under Israeli law.

Claims based on fraud, wilful misconduct or gross negligence are customarily excluded from both the cap and the survival limitations, allowing for uncapped and extended liability in such cases.

In seed-stage financings, it is also common (but by no means universal) for founders to provide limited personal representations and warranties. In such cases, founders may also be expected to:

• undertake responsibility for such representations and warranties; and
• provide indemnification in the event of any breach.

However, this undertaking is typically:

• secondary to the company's liability;
• not expected to be paid in cash; and
• usually capped at the value of the founders' equity holdings.

5.5 What key transfer rights and restrictions (eg, lock-up period, right of first offer/right of first refusal, drag/tag-along rights, purchase options) typically feature in venture capital investments in your jurisdiction? Are (reverse) vesting/good and bad leaver provisions commonly applied to founders in your jurisdiction? If so, how are these typically structured?

Right of first refusal: Generally, investors (holding above a certain threshold or a minimum number of shares) have a right of first refusal on the sale of shares by other shareholders. Often, investors will demand to be excluded from being subject to this right in the event that they wish to sell their shares. Exercise of the right of first refusal is often conditional on the purchase by the shareholders of all the shares being offered.

No sale: Often founders are completely barred from, or severely limited in, selling their shares for a specific period (often at least three years, but occasionally until exit).

Tag-along (co-sale) rights: Generally, the investors have the right to sell shares together with the founders (or other holders of ordinary shares), if and when the founders sell shares to third parties. This right can be exercised if the investor elects not to exercise its right of first refusal. It is very uncommon for founders to have tag-along rights on sales of shares by funds.

Typically, there are exceptions to these rights for transfers of shares for estate planning purposes and so on.

Drag-along (bring-along) rights: The articles of association commonly provide that where a specific majority of shareholders (often including the holders of a specific majority of preferred shares) agree to a bona fide third-party purchase offer, all shareholders must sell. There is also a statutory bring-along right in the Companies Law 1999, which provides that if the holders of 80% (90% in the case of companies established before 1999) of shares wish to sell, all shareholders can be forced to sell.

5.6 What management incentives (eg, equity, options, phantom shares) typically feature in venture capital investments in your jurisdiction?

Israeli companies usually incentivise their employees by granting options to purchase shares which are subject to vesting over a number of years. It is rare for an Israeli company to issue shares subject to repurchase to its employees. Employees typically receive options, which are exercisable into shares if the employee continues to be employed during the relevant vesting period. Section 102 of the Tax Ordinance 1961 provides a mechanism for ensuring that these options are only taxed (at capital gains rates) upon the sale of the underlying security (ie, the shares obtained upon exercise of the option) rather than upon exercise of the options. To benefit from the beneficial tax treatment, the share option plan must comply with the requirements of Section 102, including holding the options in trust for two years.

6 Debt investment terms

6.1 What terms typically feature in non-equity venture capital investments in your jurisdiction?

Israeli venture lending transactions are typically quite similar to US transactions in both structure and terms. The notable difference is that the transaction documents will include Israeli law-governed security documents, specifically fixed charge and floating charge agreements.

With respect to the general commercial terms, standard term loans have a 36 to 48-month term and will generally include an interest-only grace period of six to 18 months. Interest rates vary from lender to lender but it is common for rates to be floating based on prime or secured overnight financing rate. Typical fees include:

• commitment fees;
• utilisation fees;
• end of term fees; and
• pre-payment fees.

The blend of fees generally varies based on lender preferences and negotiations with the borrower.

Warrant coverage is generally valued at a percentage of the facility amount. It is common for the warrant shares to be exercisable into the existing senior preferred shares with a lender option to upgrade to the next round shares. Some lenders prefer ordinary share warrants and in such cases the warrant coverage is usually determined as a percentage of the borrower's fully diluted share capital. Although subject to negotiation, it is common for the warrants to include a vesting mechanism contingent on actual drawdown of the facility, in which case 50% is typically vested upfront. Warrants generally have a 10-year term, include cashless exercise mechanics and limited information rights.

With respect to the collateral package, intellectual property is typically included. It is difficult to obtain a perfected fixed charge over Israeli bank accounts (Israeli banks do not enter into account control agreements), and it is recommended for lenders to include an asset limitation restricting borrowers from maintaining cash in Israel in order to limit exposure.

For cross-border transactions, it is important to address tax withholding and gross-up obligations of the borrower as early as possible, ideally as part of the term sheet. In general, payment of interest by an Israeli borrower is subject to withholding. Depending on the identities of the lender and/or borrower, an exemption or reduced withholding may be obtainable.

6.2 How are such non-equity investments typically treated in the event of (a) an equity investment, (b) a change of control and/or (c) maturity?

• Upon maturity: The loan is repaid and all security interests are released. The warrants survive in accordance with their terms.
• Equity financing: Venture capital financings are generally permitted without triggering pre-payment or change of control restrictions. The facility will generally remain in place. Depending on the warrant terms the lender may be entitled to upgrade the warrant to the shares of the new financing round.
• Change of control: This will:
• • trigger a pre-payment obligation;
  • require lender consent; or
  • otherwise be considered a default under the facility agreement.
• The warrants will become immediately exercisable.

7 Governance and oversight

7.1 What are the typical governance arrangements of venture capital portfolio companies?

Typical governance arrangements for Israeli venture capital portfolio companies are set forth in the articles of association and the investor rights' agreement. They include the following:

• Venture capital funds will often require board representation (or an observer seat) as a condition of their investment. In the case of periodical board of directors' meetings, venture capital-backed companies will often require at least one investor director present for there to be a quorum.
• Protective voting provisions require fund approval or a majority in interest of the investors (depending on the company's capitalisation) for a variety of actions, including:
• • the creation of a class of shares with rights superior to those held by the fund; and
  • numerous other corporate activities.
• Committees: Companies may establish board committees, such as audit or compensation committees, especially when preparing for later-stage rounds or an initial public offering (IPO). Typically, venture capital funds will be entitled to representation on such committees.
• Information rights: See additional information in question 7.4.
• Structured signature rights: Venture capital-backed companies will often require the consent of their board representative for certain expenditures.
• Rights under a management rights letter generally allow investors to consult with management on a regular basis.

7.2 What legal considerations should venture capital investors take into account when putting forward nominees to the board of portfolio companies?

Directors owe fiduciary duties to the company (and in certain cases, also to the shareholders). In Israel, fiduciary duties contain a duty of care and a duty of loyalty component:

• The duty of care requires a director to focus on the board's decision-making process. Israeli law permits exculpation from personal monetary liability for breaches of the duty of care, unless committed intentionally or recklessly.
• The duty of loyalty requires a board member to act in good faith to further the best interests of the company generally. Directors of Israeli companies cannot be exculpated from personal monetary liability for breaches of the duty of loyalty.

Directors should disclose from the outset any conflicts of interest or outside influences regarding any particular matter before the board of directors. Interested directors should then:

• leave or not attend any meetings where the matter is discussed; and
• direct the company not to share any board materials or other information with such interested director.

Board members should generally abstain from voting on matters in which they have a conflict of interest.

Directors must:

• keep the company's proprietary information confidential; and
• not harm the company with the information they receive as a result of their role as a director.

Company information can be used only:

• to make decisions in a director's capacity as a director; and
• otherwise to act in, and to make decisions that are in, the best interests of the company.

In making business decisions, directors are generally protected by the business judgement rule, which presumes that the directors acted rightfully as long as they did so:

• on an informed basis (eg, after reviewing and considering the relevant data and factors);
• in good faith (subjective test); and
• without any conflict of interest.

A board's decisions must be attributable to a rational business purpose; but the board cannot be held liable for making a business decision simply because another decision would have been more profitable for the company.

In circumstances where the conditions of the business judgement rule are not met, the court may choose to revoke its protection.

In addition, in special situations, the courts may use a higher scrutiny standard in determining whether a board carried out its fiduciary duties, such as where the court thinks that applying the 'regular' standard of the business judgement rule may not provide an adequately sufficient solution for potential shortcomings that may arise. Examples could include cases involving:

• hostile takeover transactions;
• changes in the company's capital structure in the context of a leveraged buyout;
• certain transactions involving a controlling shareholder; and
• other types of conflicted transactions.

7.3 Can a venture capital investor and/or its nominated directors typically veto significant corporate decisions of a portfolio company? If so, what are the common types of corporate decisions over which a venture capital investor might request veto rights?

Yes. It is standard in Israeli venture capital transactions for major investors to have veto rights over significant corporate actions. These rights are typically granted via protective provisions included in the company's articles of association (which bind all shareholders under Israeli law).

Unless specifically granted at the board level, these veto rights generally do not flow automatically to investor-nominated directors; rather, they are exercised in the capacity of the investor as a shareholder.

Typical decisions that may be subject to veto rights include:

• amending the articles of association;
• issuing new shares or creating new share classes;
• making any alteration, change or other modification of any rights, preferences or privileges of the preferred shares;
• entering into mergers, acquisitions or liquidation events, or an IPO;
• making material changes to the business plan or budget;
• increasing or reallocating the employee stock option plan;
• taking on significant debt or pledging assets;
• appointing or removing senior executives;
• approving related-party transactions; and
• changing signature rights.

7.4 What information and reporting rights do venture capital investors typically enjoy in your jurisdiction (by law and contractually)?

Under the Companies Law, 1999, shareholders – including venture capital investors – are entitled to certain baseline information rights. However, these are quite limited and do not meet the expectations of institutional investors. As a result, more robust information and reporting rights are negotiated contractually and set out in the investors' rights agreement.

Statutory rights granted to shareholders include:

• the right to review the company's register of shareholders and minutes of general meetings;
• the right to receive the company's audited annual financial statements; and
• the right to inspect documents filed with the Registrar of Companies.

These rights are generic and limited. They do not provide regular financial or operational updates.

Venture capital investors customarily negotiate far more extensive contractual information and inspection rights, including some or all of the following:

• the right to receive quarterly and annual financial statements within set timeframes;
• the right to receive the annual budget and business plans prior to their approval;
• the right to receive (or the right for board members to receive) monthly management reports and operational updates (more common in later-stage rounds);
• the right to receive board meeting materials prior to and following such board meeting; and
• the right to visit facilities and meet with management.

These rights are often limited to 'major investors' – that is, investors holding a minimum percentage of shares or a threshold investment amount.

7.5 What other legal tools and strategies are available to venture capital investors or other minority investors to monitor and influence the performance of portfolio companies?

• Board representation;
• Observer representation;
• Protective provisions (veto rights); and
• Information and inspection rights.
  

8 Exit

8.1 What exit strategies are typically pursued by venture capital investors in your jurisdiction?

• Sale of the portfolio company's shares by all shareholders of the portfolio company: Whether structured as a share sale or a merger, this is the most efficient manner of selling a portfolio investment. It involves a sale of all of the fund's shares in the company, typically in return for cash or tradable securities.
• Sale of the portfolio company's assets: While a sale of the company's assets has the advantage of not requiring shareholder approval, it often has the disadvantage of being inefficient from a tax perspective. Upon a sale of its assets, the portfolio company is subject to capital gains tax; and when the resulting proceeds are distributed by the company to its shareholders, the distribution is often subject to a dividend tax.
• Initial public offering: Flotation of a company's shares on a recognised stock exchange brings liquidity to the venture capital fund by enabling it to begin selling its shares on the public market. However:
• • sales of shares on certain stock exchanges are subject to time and quantity restrictions, which limit a fund's ability to sell all of its shares simultaneously; and
  • the share price is subject to volatility.
• Sale of the portfolio company's shares in a secondary transaction: A venture capital fund may sell its shares in a portfolio company to a third party. Often these sales are subject to a right of first refusal of other shareholders in the company. However, the price to be received by the venture capital fund is likely to reflect a discount due to the fact that the third party would be purchasing a minority interest in the company.

8.2 What specific legal and regulatory considerations (if any) should be borne in mind when pursuing each of these different strategies in your jurisdiction?

While many elements mirror global norms, Israel has specific rules and regulatory bodies that must be accounted for, particularly with respect to tax, intellectual property, government grants and labour law:

• Israeli Innovation Authority (IIA) grants:
• • If the company received funding from the IIA, it must notify the IIA of a sale and may need to repay the grant, often with interest or royalties.
  • The export of intellectual property developed with IIA grants requires IIA approval and typically is accompanied by a fine to be paid to the IIA.
• Employee equity and tax: Employee and other options will trigger tax events upon sale; in most cases, the company will approach the Israeli authorities for a pre-ruling to avoid immediate adverse tax consequences.
• Labour law: The buyer may need to:
• • assume continuity of employment, severance obligations and transition of equity incentive plans; and
  • comply with local employee transfer protections.
• Competition approval: Acquisitions may require approval by the Competition Authority. To the extent that the company sells in other jurisdictions, similar review may be required, even though the company is Israeli.
• Companies law: In Israel, many acquisitions are carried out as mergers – often as reverse triangular mergers, where the company ends up merging with a newly created Israeli company that was incorporated by the acquirer to facilitate the merger.
• The merger process follows a defined legal framework under the Companies Law, 1999. The Israeli statutory merger process is court-free but subject to procedural requirements, including:
• • shareholder approvals;
  • creditor notice;
  • a waiting period; and
  • the issuance of a certificate of merger by the Registrar of Companies.
• Securities laws:
• • If listing on the Tel Aviv Stock Exchange, the company must comply with Israeli securities regulations and ongoing public company disclosure obligations.
  • If listing overseas, local counsel will still need to manage cross-border legal, tax and IP compliance.

Additional considerations: While not specific to Israel, Israeli companies being acquired or going public on a foreign exchange are still likely to require specific legal and regulatory consideration resulting from the identity of their shareholders or the nature of their business operations. Accordingly:

• companies are likely to require:
• • US Committee on Foreign Investment approval; and
  • competition approvals in foreign jurisdictions; and
• listing companies will need to comply with local securities laws.
  

9 Tax considerations

9.1 What are the key tax considerations in relation to venture capital equity investment in your jurisdiction?

Capital gains tax: Non-Israeli investors may be exempt from Israeli capital gains tax on the sale of shares in Israeli companies, subject to the following conditions:

• The investor is not an Israeli resident for tax purposes.
• The investor does not have a permanent establishment in Israel. Venture capital funds operating an office in Israel, or that employ investment professionals or advisers based in Israel, should be aware that the Tax Authority may treat the venture capital fund as having a permanent establishment in Israel, which could expose the fund and its investors to Israeli tax.
• The shares were not acquired from a related party.

Most venture capital funds that invest in Israel regularly secure tax rulings that exempt their non-Israeli investors from tax withholding and reporting in Israel as a result of their investment in such venture capital fund.

Withholding tax on dividends: Dividends paid to non-Israeli investors are typically subject to withholding tax (generally 25% for individuals and 30% for substantial shareholders, although this may vary).

The tax rate may be reduced:

• under certain tax treaties between Israel and the investor's country of residence; or
• by an exemption from the Tax Authority.

9.2 What are the key tax considerations in relation to venture capital debt investments in your jurisdiction?

Venture capital debt investment has an additional factor to consider: the tax on the interest component of the debt repayment is subject to withholding. The warrant that is often included in venture debt financings may be considered as interest. Interest payments to non-Israeli lenders are typically subject to Israeli withholding tax (generally 25%–30%). This tax may be reduced:

• by certain tax treaties which provide for a reduced rate; or
• if the lender obtains a withholding exemption certificate from the Tax Authority.

9.3 What are the key tax considerations in relation to equity-related incentive schemes in the context of venture capital investments in your jurisdiction?

Section 102 of the Income Tax Ordinance is the primary legislation governing equity-related incentive schemes (ie, option plans) and is relied upon by most startups active in Israel. Only Israeli employees and office holders of the company are eligible for such incentives. The plan must be approved by the company and reported to the Tax Authority at least 30 days before the first grant. The plan must also comply with specific documentation, trustee arrangements and reporting obligations.

Equity grants to service providers who are not employees – such as consultants, advisers and freelancers – may only be granted under Section 3(i) of the Income Tax Ordinance. Gains under Section 3(i) are generally taxed as ordinary income at marginal rates, not capital gains.

The following key points should be borne in mind:

• There are certain restrictions on options granted pursuant to Section 102, such as:
• • controlling shareholders (ie, holders of ≥10%) being excluded from Section 102 benefits entirely; and
  • a mandatory two-year holding period for certain tax benefits.
• Restricted stock units (RSUs) are less commonly used in Israel because they require more complex planning to benefit from trustee structures. They are typically used when US publicly traded companies hire Israelis through a local subsidiary or branch.
• While Section 409A is a US concept, Israeli companies will need to be 409A-compliant if the company has any employees who are US taxpayers.
• In a liquidity event, options and RSUs are often accelerated. If not structured properly, there is a risk of recharacterisation as employment income at exit.

10 Disputes

10.1 What kinds of disputes typically arise in relation to venture capital investments in your jurisdiction and how are they typically resolved?

In Israel, disputes arising from venture capital investments generally mirror those seen in other mature tech ecosystems, but with some jurisdiction-specific trends. Common types of disputes include the following:

• Founder disputes: Termination of one or more of the founders. These disputes are rarely litigated.
• Shareholder disputes: These can be caused by:
• • exit strategy disagreements;
  • participation in financing rounds; and
  • effecting pay-to-play mechanisms.
• They are rarely litigated.
• IP ownership issues: These arise from a broad variety of sources and are more likely to be litigated.

Disputes are often resolved:

• by independent mediators (often former judges or law firm partners);
• through arbitration; or
• through litigation in the Israeli courts.

11 Trends and predictions

11.1 How would you describe the current venture capital landscape and prevailing trends in your jurisdiction? What are regarded as the key opportunities and main challenges for the coming 12 months?

The current venture capital landscape in Israel continues to be dominated by cybersecurity. A wave of defence-tech investments has followed the needs of the war and a significant percentage of Israeli startups are AI oriented. Verticals such as healthcare, fintech and proptech are leveraging AI intensively, supported by government initiatives. Large rounds for unicorns and mature scaleups are sustaining the venture capital ecosystem, even amid the global funding slowdown.

Key challenges ahead include the following:

• Lack of funding for growth stage companies: While seed and early-stage rounds continue apace, funding for Series A rounds and beyond is insufficient to finance the multitude of companies that raised capital at high valuations between 2020 and 2022 and are currently fundraising. Many of these companies have raised simple agreements for future equity from existing investors, which – perhaps unintuitively – now makes fund raising even more difficult. Many of these companies may:
• • shut down;
  • be sold in fire sales; or
  • raise new rounds at lower valuations.
• Instability due to the geopolitical situation in the Middle East and political risk in Israel: Prolonged instability and conflict risk are deterring foreign investors from entering the Israeli tech scene; however, investors that are actively investing have not withheld investments.
• Concentration risk: The heavy focus on cybersecurity and AI may leave other emerging sectors with a lack of funding.

11.2 Are any developments anticipated in the next 12 months, including any proposed legislative reforms in the legal or tax framework?

Israel is navigating a wave of legislative reforms aimed at enhancing its venture capital ecosystem, providing:

• greater certainty;
• new tax incentives; and
• increased structural flexibility.

At the same time, growing compliance obligations (eg, retained profits tax, value-added tax, governance laws) require proactive adaptation for venture capital funds and startups. Overall, the expected environment for the next 12 months is pro-investment, albeit with heightened regulatory engagement.

12 Tips and traps

12.1 What are your tips to maximise the opportunities that venture capital presents in your jurisdiction, for both investors and portfolio companies, and what potential issues or limitations would you highlight?

Israel remains a prime destination for tech innovation, for both venture capital investors and entrepreneurs. The country continues to foster a thriving entrepreneurial culture and is widely regarded as one of the most attractive tech ecosystems outside the United States.

Investors can maximise opportunities by leveraging local expertise and networks. Experienced local funds, advisers and lawyers:

• can help to navigate:
• • the nuances of the market;
  • government incentives; and
  • sector dynamics; and
• often provide early access to promising deals before they become competitive.

Israel's venture capital market follows familiar US venture capital terms and benefits from a highly educated, English-speaking workforce.

For entrepreneurs, Israel offers strong advantages, including:

• vibrant tech hubs in:
• • Tel Aviv;
  • Herzliya;
  • Jerusalem; and
  • Be'er Sheva;
• robust government support across sectors; and
• consistent interest from both domestic and international investors.

However, challenges remain. The ongoing regional conflict continues to affect investor sentiment and operational certainty. Globally, capital remains constrained, making it more difficult for startups to secure funding at all stages.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.