How ‘disruption’ won Waze its $1 billion exit

How did Waze make it to the “billion dollar club?” That’s a question thousands of Israeli entrepreneurs have been asking themselves since last June, when Google announced it was buying the Israeli traffic and navigation start-up, in the hope of emulating that success, even partially.

In order to get itself bought out, Waze, of course, had to go through some growing pains — which included getting the attention and approval of the venture capital firms that invested in the company early on. What was it that attracted VC investors to the company, that gave them the idea that they were investing in a company that was most likely to succeed? And are there any lessons early-stage and still-unborn start-ups can learn from Waze’s success?

Yes there are, said Yahal Zilka, a partner and co-founder of Magma Venture Partners, one of the VC firms that invested $12 million in Waze way back when — in 2008, in a Series A funding round. “So far, Waze has been the largest mobile Internet exit ever,” Zilka noted at an investor’s forum in Herzliya last week. “We decided back then that Waze had what it takes to succeed, because it brought a real disruption to the marketplace.”

“Disruption,” Zilka said, is what investors look for in an app or a start-up. What disruption means, however, depends on context. It can mean a completely new product to serve a market no one thought existed; it can also mean a more efficient way to accomplish a goal. It can even mean developing a new take on an existing, tried and true service or product, and coming up with a fresh way to extend market reach. Based on his experience, those disruptions, said Zilka, are worth lots of money at exit time.

With tens of millions of users, Waze is a wildly popular app that provides directions, commuting times, and a social experience. Millions of drivers around the world rely on Waze for their daily commute. Using its crowdsourced traffic information, Waze recommends the most advantageous routes for drivers, steering them clear of major traffic tie-ups where possible.

Yahel Zilka (Photo credit: Courtesy)

In truth, said Zilka, Waze didn’t get an automatic green light from potential investors; it had to prove its case for disruptiveness.

Waze actually invented a new use for navigation, said Zilka. Navigation programs (in the form of GPS devices, like those made by companies like Tomtom and Garmin) were around long before Waze, but people used them to get directions to places they had never been before; nobody had thought to use them for commuting. “When Waze added the ‘estimated time of arrival’ component and directed drivers to avoid traffic jams, it created a new category of GPS usage, with drivers using the program to navigate to places they already knew how to get to,” said Zilka.

That was disruptive, but not disruptive enough. It wasn’t commuting that closed the deal for Waze, said Zilka. In order for the commuting component to be fully implemented, Waze needed to build a big following of drivers who would crowdsource the information — and the app did not have that kind of reach in its early days.

Ultimately, it wasn’t any of the uses with which we generally associate Waze that convinced Magma that it had a winner. “There were already services crowdsourcing traffic information. Waze had an interesting take on social networking, but they didn’t invent anything there either. Police alerts were available with radar detectors, and of course there were navigation programs,” said Zilka. That Waze aggregated those services was nice, but it wasn’t necessarily market-changing — or market-share grabbing.

A screen capture from a Waze tutorial video (photo credit: Waze/YouTube)

What sold Magma on Waze was something that most people consider to be a secondary feature of the app — map creation. As drivers use Waze, they automatically upload their location to Waze’s servers, which update road maps and analyze their features — where users make right and left turns, where there are traffic lights, where construction is taking place, and so on. “Map making was the real disruptive aspect of Waze,” said Zilka.

“There are only a few companies in the world that develop maps, and most of them are worth billions,” said Zilka. Netherlands-based Tele Atlas, for example, was bought by navigation system manufacturer TomTom in 2008 for 2.9 billion euros — after that company won a bidding war with Garmin. In 2007, Nokia bought Chicago-based Navteq for $8.1 billion. And Israeli mapping company Telmap, though far smaller than Tele Atlas and Navteq, was bought out by Intel in 2011 for about $350 million.

The reason these companies sell for so much stems from the fact that map data is the basis for all geolocation apps. “Without maps none of these location apps would work very well,” said Zilka. In addition, a lot of work went into developing the maps; the companies had armies of cartographers and programmers who input the data into the map system and kept it updated, and developed turn-by-turn instruction sets that Tomtom and Garmin users came to rely on.

A man holds an iPhone displaying the Waze app (photo credit: Yonatan Sindel/Flash90)

That Waze had come up with a way to essentially do the updating work — for free and based on its crowdsourcing approach — was the truly revolutionary component of the app, said Zilka. Even better was the programming it did to make the map navigable automatically — determining the ideal route based on the up-to-date map information and the traffic info.

Which could be a reason Google decided to buy out Waze for over a billion. Still, according to some analysts, Google’s move was defensive, not offensive; by taking Waze off the market, Google was denying potential rivals (Apple and Facebook, both companies that were rumored to be interested in Waze at various points) a mapping platform that could be used for a plethora of location apps. Considering how few mapping companies there are, it’s a theory that makes sense, said Zilka.

“These other companies spend billions to develop maps, and here they were showing me a way to do it that would cost zero.” At that point, investing in Waze was a no-brainer. “And developing an app to make the crowdsourced map data navigable on the fly was just great,” said Zilka. “Even Google Maps can’t do that.”

Waze navigation screen (photo credit: Courtesy)

Magma had so much faith in Waze’s eventual success that it tripled the initial investment Waze itself asked for when it approached the VC. “They asked for $4 million.” said Zilka. “Usually when a start-up asks for that kind of money we work with them and show them how they can make do with less, but in this case we realized that building up the user base was key to the map development. So we offered them $12 million.” In addition, he said, Magma gave Waze three years to reach milestones set out in the deal, instead of the two years it usually gave an investment.

“They weren’t sure about accepting that much money and diluting themselves to such an extent” by giving Magma so much equity, but it worked out, said Zilka. “After they went through the first $4 million, Google came out with its navigation app, and everyone wrote off Waze, so in the end it worked out for the best that they’d got that extra rope.”

Now Waze itself is a part of Google, and has radically changed drivers’ notions of what a navigation app is supposed to do. That, in short, is disruption, but without the Waze team’s ideas about free map-building, itself disruptive in a high-margin business, the latter disruption of developing into a commuting app would not have taken place.

“As we look at the market today we see many more opportunities for disruptive technologies,” said Zilka. Israeli start-up Hola, for example — a company Magma has invested in as well — is “very disruptive,” said Zilka. It is developing a serverless Internet to allow users to hide their IP address and access geoblocked media services from all over the world.

“The idea is the same,” said Zilka. “Investors are always going to look for something solid that is a change from what is currently on the market.” The more that entrepreneurs break the mold, the more likely they are to see the cash — and perhaps see themselves on the front pages as the geniuses behind the next Waze.