Special report: Rise of Arab startups offers hope for region’s sluggish economies
New digital businesses, following in the footsteps of western counterparts, are starting to change the Arab world’s economic landscape. Yigal Chazan reports
With countries across the MENA region struggling to wean themselves off natural resources and cut back on bloated public sectors, the emergence in the last few years of a promising Arab startup sector, drawing growing levels of investment, could provide the stimulus for the private sector development that is key to regional prosperity. A number of eye-catching, multi-million dollar deals and investments involving MENA’s most successful startup companies have alerted regional governments as well as domestic investors to the potential of the new wave of Arab entrepreneurship that has been picking up momentum over the last decade or so.
MENA governments are particularly keen to see the startup sector expand because high levels of unemployment among their youthful populations threaten stability – the Arab Spring was a salutary reminder of the trouble countries may face if grievances over joblessness and economic opportunity are not tackled. While an extensive startup ecosystem is taking root, poised to exploit a huge tech-savvy consumer market, numerous obstacles and challenges need to be addressed and ultimately overcome if the new businesses coming to the fore are able to mature into companies capable of driving private sector growth.
Cash-strapped authorities are no longer able to sustain massive state sectors, which in several countries accounts for up to 80% of formal employment. Running short of energy-related revenues and under pressure from lenders to make public service cuts, officials hope that the nascent digital commerce economy will in time absorb at least some of their university graduates and high school leavers.
It is clearly early days, but in just over a decade the startup sector has put itself on the international digital commerce map. Though dwarfed by the entrepreneurial might of the US and Europe, MENA now reportedly boasts over 3,000 startups and an effective ecosystem enabling them to develop and grow, with the last few years seeing a distinct acceleration – 60% of the top 200 funded companies were all founded between 2012 and 2015, according to MAGNiTT, the largest data platform for investors, entrepreneurs and corporates for the MENA region. Since 2005, it says, these leading startups have raised more than $2bn.
“Five years ago, we barely had accelerators, VCs, incubators. Now you have VCs like Wamda Capital, Beco, MEVP, Silicon Badia, Berytech, Sawari Ventures and the list goes on. Now we have telcos who are opening up innovation labs and running accelerator programmes for startups,” says Reine Farhat, senior editor at Wamda, a platform providing advisory services for the MENA startup ecosystem.
Tech entrepreneurs also benefit from a consumer market characterised by high levels of smartphone penetration, app usage and trading power as well the presence of a small number of market-dominating retail giants, providing opportunities for disruption. Moreover, many youngsters in the region believe people of their generation are more likely to start a business than in previous generations, with technology the favoured sector for would-be entrepreneurs, according to Asda’a Burson-Marsteller Arab Youth Survey findings. That’s despite the stigma attached to startup failure and lingering public disdain for entrepreneurs in the Arab world.
While most MENA countries have been able to claim startup successes, the UAE is the driving force in the sector. Some 40% of the region’s new tech companies have been set up in the Gulf federation, which secured the lion’s share of around $600m of investment in MENA startups last year.
Commentators attribute the UAE’s dominance to several factors, including governmental provision of funding and incubators; an affluent, tech-savvy customer base that has embraced e-commerce, the main digital business in the region, more enthusiastically than other jurisdictions; and the high number of skilled industry professionals prepared to become entrepreneurs.
Three of the best
Indeed, the UAE has spawned three of the biggest startup operations to date: Careem, the region’s leading app-based, car-booking service, with 20m signed-up users and 250,000 registered drivers, raised $150m last year; online retailer Souq, reported to have 45m visitors per month, was acquired by Amazon for $580m in 2017; and Fetchr, an app-based delivery service, last year secured $41m.
Philip Bahoshy, the co-founder and CEO of MAGNiTT, believes these companies have done so well because they have tackled a significant logistical headache in the region, the lack of standardised postal addresses, by using GPS technology to locate customers. “All three are effectively logistics, point-to-point delivery entities that have actually solved what is a major paint-point,” he says.
According to Christopher Schroeder, a global venture capitalist and a leading commentator and writer on Arab entrepreneurship, these successes reflect broader positive trends within the sector, “It has hit a very new dimension in the last couple of years. Companies like Souq, Careem and Fetchr are becoming true scale-ups; the quantity and quality of entrepreneurs is high. They are thinking about the latest technology in data science, AI, blockchain to solve big problems.
“They understand last-mile logistics, navigating the rule of law, cultural sensitivities. They sit on massive unique data-sets ripe for great insight, and understand what works in these markets can often extend to neighbours in South Asia, Africa, South-East Asia and more.”
While e-commerce remains one of the main startup business areas, fintech operators are gaining traction – with remittance payment services and peer-to-peer lending prominent among them – and there are a range of other innovative offerings catering for specific local needs, some with very clear social objective, such as Egypt’s Nafham, a free education platform, and Swvl, an app-based private bus service, providing an antidote to the country’s unreliable public transport service. The wave of enterprise has been given impetus by the emergence across the region of clusters of incubators, accelerators and training and mentoring facilities.
Outside the UAE, Egypt is one of the leading centres of entrepreneurial activity. Despite the political instability of recent years and ongoing security concerns, the tech scene has enjoyed significant growth, with investors attracted by the huge potential market and growing internet penetration. Although the Arab Spring largely failed, some commentators suggest it gave many young people the confidence to set out on their own in business. The location of the GrEEK Campus, a major startup hub, close to the epicentre of the protests is a coincidence, but the symbolism of their proximity is poignant. The hub hosts the annual RiseUp Summit one of the largest entrepreneurship and innovation events in the region, which in 2017 drew 5,000 visitors, including 150 startups and 500 investors.
Lebanon and Jordan have also been at the forefront of the region’s technology revolution. The Lebanese ecosystem was given an important boost in 2014 when the Central Bank of Lebanon launched Circular 331, a $400m fund which sought to encourage Lebanese banks to help finance startups by guaranteeing their investments. The facility is said to have significantly improved access to capital and given startups a longer lifeline, with investments in new projects rising from $7m in 2013 to $56m in 2016, according to ArabNet, an events and media company for the Arab digital industry.
In 2017, the Jordanian startup sector, which has also been constrained by limited access to credit, was bolstered when the World Bank earmarked $50m-worth of investment, complemented by pledges of $49 million from the Central Bank of Jordan, for the early stage financing of more than 200 new businesses across the country. The importance cannot be underestimated as SMEs make up 96% of Jordanian enterprises, with some of country’s startups such as Jamalon, an online bookstore, and Tamatem, a mobile games publisher, among the most innovative in the region.
Yet while governments and donors are actively encouraging the region’s entrepreneurs with startup investment programmes and SME development funds, bureaucratic and regulatory hurdles – such as the lack of bankruptcy laws and onerous red tape – are some of the biggest breaks on progress. A recent Brookings Institution report on Arab entrepreneurship concludes “that while many Arab states have reformed laws on paper, they still struggle when it comes to enforcement, deterring real change”.
Omar Christidis, founder and CEO of ArabNet, says regulatory obstacles are wide-ranging, “The process of establishing a business, the minimum capital requirement, the process of closing down a business, the personal liability for running a business – all these are challenging.”
Idriss Al Rifai, the founder and CEO of Fetchr, says he has first-hand experience of the obstacles entrepreneurs encounter, “Opening a bank account is very difficult. Getting a company card is very difficult. You have to have three years of audited financial statements. So we were getting more than $20m, $30m revenues and we still couldn’t have a credit card. Some of these things just don’t make sense.”
While regulation continues to burden startups, some of the more progressive regulators have taken imaginative steps to fast-track entrepreneurs through the bureaucratic maze. Christidis says Abu Dhabi, Dubai and Bahrain provide regulatory sandboxes for fintech companies that allow them “to operate within limited boundaries and test their products without necessarily stifling them through the extensive regulation that an established financial services organisation would need to adhere to”.
Nonetheless, for startups looking to scale up, managing bureaucratic impediments in one jurisdiction is of limited value. In order to capture a large enough market to be of interest to venture capitalists, they have to establish themselves in other MENA countries – each with different regulatory and legislative environments – which requires strong founding teams that are able to generate funds to invest in legal advice, infrastructure and recruitment, according to Bahoshy.
Regional expansion is a big challenge, but also an opportunity. “Successful startups in the region are the ones that are able to scale into more than two or three countries,” says Bahoshy, pointing out that Souq, Fetchr and Careem have led the way, with fintech, food-and-beverage and education-based startups also now looking to expand into multiple jurisdictions.
To get to the point where such expansion can even be considered, startups need to source digital talent, key to setting up operations in new jurisdictions and early stage growth. As with much of the rest of the world, finding technically-skilled staff is a problem, but it is a particular issue in the Arab world, largely because the education system is not turning out sufficient numbers of suitably qualified high school leavers and university graduates.
“We are still lagging behind here,” says Farhat of Wamda. “Our schools and universities do not equip students for the workplace. [There’s a] lack of education on data, no coding clubs, no subjects on entrepreneurship, prototyping workshops. Those who want to do this need to pay extra. It should be at a national level and in school curricula.”
Schroeder believes the problem is more deep-seated, “I would say that there isn’t anywhere near enough emphasis on critical thinking. It is still too often rote-learning. Classrooms can be 70 or more kids, and they learn to spit back things, but rarely to problem-solve or innovate.”
The skills shortage means that some of the biggest and most successful tech companies, many of them founded by western-educated, highly-qualified Arab professionals, tend to recruit senior staff with similar backgrounds and internationals – although visa restrictions tend to limit the availability of the latter, particularly in some of the more protectionist MENA countries.
“Truth be told many of the founders that are the innovators or the entrepreneurs who have successfully raised funds from venture capitalists are those coming from western educations, returning to the region and giving it a go,” says Bahoshy.
Commentators believe that Arabs that gained MBAs in the West and worked in consulting for a number of years are best placed to succeed because they understand the pain-points of the industry they are operating in, possess invaluable business connections and have the financial means to at least bootstrap for a few years, as they negotiate what can be difficult startup funding rounds.
Getting early stage funding of up to a $1m is “fairly easy or at least easier than it was five years ago”, according to Al Rifai of Fetchr. The real challenge, he believes, is raising between the $10 to $30m for growth capital, pointing out that part of the problem is that when local investors are asked to invest substantial sums they expect to take most of the reward. “A lot of investors are not educated with regard to VC investment. They are used to real estate. They are used to having profits on year one or year two, which is not the case with any type of startup investment,” he says.
Bahoshy says many of the startups that have emerged in the last couple of years have yet to get to series C round funding, let alone to exit, which creates a return for the investors, “The risk appetite to invest in what is effectively an alternative asset class isn’t there yet because we haven’t had necessarily the success stories to prove the return for investing in an industry where it’s well known that you have a 70 to 90 per cent failure rate.”
Nonetheless, commentators acknowledge that there are a lot more VCs than there were ten years ago, with Christidis underlining another important trend – corporations’ increasing engagement in the startup sector, which he believes could be a major game-changing development. “They are really getting involved. We’ve seen corporations have an appetite for investments, acquisitions – some of them have even set up their own funding initiatives. Almost every corporation that we talk to today is seeing how they can get into this game,” he says.
As for western investors, Schroeder says the region is not quite on their radar yet, “Some top investors and great entrepreneurs have visited – a few have invested at the margins. But the ones that engage understand what is here and coming, and the newer generation get it, in particular.”
The consensus seems to be that while still in its infancy, the MENA startup sector has considerable potential if a host of issues slowing growth – from bureaucratic reforms to talent acquisition – are addressed. Much of that will be down to regional governments. They must create a more conducive environment for entrepreneurs and investors. Some have been more proactive than others in putting support and reforms in place. And most understand that with old economic models looking increasingly obsolete, it is clearly in their interest to do so.
Yigal Chazan is an associate at Alaco, a London-based business intelligence consultancy.