The peculiar case of tech valuations in MENA

For the last few years, tech valuations have been on a steady rise in MENA. There remains, for the lack of a better word, a lot to be disrupted and founders have been leveraging untapped opportunities in solving multiple market inefficiencies. This trend may have begun with e-commerce and retail, but can now be observed across various industries from financial services to real estate. 

Companies in the region both operate and fundraise in what is a relatively nascent, albeit accelerating, opaque private market which remains inefficient in its pricing model and whose machinations lack transparency.

Given the above and with increasing interest and capital allocation to the tech/startup asset an intense debate has emerged: are valuations too high? If so, will the current economic slowdown bring about a market correction and in what directions are tech company valuations heading?

The recent global economic slowdown has brought on a record number of layoffs and bankruptcies. While a slower rate of deployment was expected, a recent report by MAGNiTT shows a 35% increase in funding when comparing H1 2020 to H1 2019.

Last week, Nuwa Capital’s Sarah Abu Risheh hosted Clara co-founder and CEO Patrick Rogers and Precinct Partners managing partner Amjad Ahmed to think through the parameters behind valuations, and how founders could best position themselves post a down round. 

Here are a few thoughts that stood out; the full conversation can be viewed below.

The fundraising realities faced by companies vary across stages

The increased interest in tech companies is the result of the acceleration of an existing trend to adopt digital services and strategies which has emerged over the last decade. There is a rush to grab venture assets on the global level, but perhaps a little less so regionally. 

Raising capital is a lengthier process in MENA than in more developed markets. Additionally, newly unlocked pools of capital have yet to fully integrate the venture capital cycle and tend to need time to process and close deals. As such, some of the deals finalized in H1 2020 may have already been on the table for a long time. It will be interesting to see the number of transactions and subsequent valuations later in the year as the backlog of deals ostensibly already concluded starts clearing. 

The conversation also highlighted the need for more players in the market to abate the current liquidity issue faced by companies in later stages. The reality is that the market has been seeing down rounds since before COVID-19. The liquidity issue is skewed towards companies raising Series A and up, rather than those at an earlier stage. The consequence of that gap in investment capital availability is contractionary pressure on valuations in growth and later stage companies. 

*Measured by digitally active population. – Source: WEF competitiveness index

Conceivably, companies and investors alike have also looked at new ways of closing deals either through inside rounds or venture debt, which has not historically been prevalent in MENA.

Steep valuations can mean long term problems

The risk with raising at a very (or unnecessarily) steep valuation largely materializes at a later round, where founders find themselves faced with a challenging cap table and a high likelihood of dilution, with the addition of raising at a lower valuation. Founders will need to be especially mindful of high valuations, especially in a region where liquidity at later stages is an issue. 

There are instances where founders will have to raise at lower valuations due to the current economic climate. Companies with healthy business models and cap tables should have little trouble explaining those in future rounds. 

There is a consensus to urge founders to focus on the end-game; building a real company with a healthy foundation and the right investors, rather than getting the highest valuations on offer.

The real effects of current events have yet to become clear and it may be a bumpy ride for the next year, but tech companies that are either helping their customers operate more efficiently or helping them save money may be at an advantage by design. This can be seen with some companies which have demonstrated counter-cyclicality: they’ve done well pre-economic slowdown, but they are also doing exceptionally well during COVID-19 and/or the looming economic contraction. For these companies, investors will definitely be willing to pay a premium for access.

Make sure to view the full conversation for insight on deal terms, the evolution of the legal and regulatory framework, and what different mechanisms are being implemented to pursue and close deals.

https://www.youtube.com/watch?v=Izg2rCKDS3k

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