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Flying cars and fintech get high on $250m boost

Futuristic transport and the metaverse will benefit from the fund
Futuristic transport and the metaverse will benefit from the fund. Picture: Creative Commons

Natasha Hannoun, head of debt at SHUAA Capital, tells AGBI why the investor’s alternative capital solution is a game changer for the region’s startup ecosystem

Fintech is the number one target for SHUAA Venture Partners, a new $250 million (AED 918 million) Shari’ah fund, focused on venture debt investments. Other sectors being eyed include healthtech and breakthrough technologies like the metaverse, Web 3.0 and cryptocurrencies. 

Asset manager and investment bank SHUAA Capital announced the fund in March, hailing it the largest venture debt fund in the six-nation Gulf Cooperation Council (GCC). The fund was established to support the growth of regional technology and tech-enabled companies seeking alternative capital solutions, without significantly diluting their shareholding.

“It’s a sector-agnostic fund,” said Natasha Hannoun, head of debt at SHUAA Capital, in an in-depth interview with AGBI. “But fintech is an area where we’re seeing huge growth and innovation. There’s still disruption and digitisation potential, so we’re looking in that space.

“The type of fintech businesses we’re looking at are ones providing financing solutions, similar to the buy-now-pay-later (BNPL) type setups. Another space we’re interested in is wealth technology that democratises investments – making traditional investments, that were primarily for institutional investors, more accessible to individuals.”

The SHUAA fund’s strategy was developed in line with the GCC’s goals to diversify their economies away from oil by supporting the growth of businesses in innovation and technology. 

Venture debt has been an alternative to equity for high-growth, tech-enabled companies within private markets globally. The model originated in Silicon Valley in the 1970s, and unicorns like Google, Facebook, Airbnb and Uber have all utilised venture debt to grow their businesses.

A few years ago a venture debt fund might have seemed an unconventional proposition in the Gulf compared with mainstream venture capital (VC) and private equity funds because the region’s startup ecosystem was nascent compared to other markets. But demand for this asset class is expected to gain traction as startups emerge around the region and evolve to growth stage. 

So far, investments in high-growth startups in the region have been dominated by early-stage transactions and investors, with few able to support businesses throughout their growth cycle. As a result growth-stage companies have limited access to larger pools of capital and non-equity financial solutions – a gap SHUAA aims to fill for new ventures to succeed. 

“The challenge is that the venture ecosystem has evolved faster than the capital that’s there to support it,” Hannoun said. “You’ve got players that have invested at the early stage which, in a way, is less risky than investing at the growth stage because you have more upside that you can gain from, and ticket sizes are smaller. What that means is, if you have a $50 million fund, for example, your portfolio will probably consist of about 25 investments and, if one of those investments is a 10x or 12x return, it doesn’t matter if the rest are successful or not.”

Hannoun attributed this VC-style mindset to the initially small size of the ecosystem, adding that the amount collectively raised in deals by long-time private equity providers operating in the region is “probably equivalent to one private equity fund”. 

Natasha Hannoun sees opportunity in the type of funding utilised by Google and Facebook

“I think that’s part of the reason why we haven’t seen a huge amount of capital available for the growth stages, because it’s a specialised type of practice,” she said. “The private equity players have not moved up in their risk curve to start investing in companies that have been operational for 15 or 20 years, that have stable income. 

“They need to be able to adapt to this new valuation framework, underwriting structure and investment criteria. It’s a different way of analysing investment opportunities, and that transition hasn’t happened. If you look at the big players, they haven’t been able to raise enough capital to continue to support the businesses or the startup ecosystems throughout their journeys. So they invest early and then they sort of sit out the rounds for Series B or C.”

The GCC has seen a staggering year-on-year increase of 112 percent in venture capital transactions, based on data from KPMG and MAGNiTT, with total investments of over $1.7 billion across 281 deals, the majority of which have been early-stage investments – Angel, Seed, and Series A. 

Meanwhile, venture debt regionally has increased 4.2x from 2020, according to Pitchbook figures, with a total of $257 million deployed into 14 investments, indicating the clear demand for alternative funding sources. 

And as venture capital and private equity investors have swarmed to coronavirus-influenced tailwind sectors, demand for venture debt from growth-stage startups has become even more pronounced.

High-growth technology-enabled companies that used to rely only on equity as a source to fund their businesses are increasingly turning to venture debt to extend the time needed to become cash flow positive and, most importantly, protect percentage points of their shareholding so that they can raise their next equity round at a higher valuation.

“The support coming from the use of venture debt is key to entrepreneurs as it sustains businesses in need of funding in a key phase of their evolution without overly-diluting shareholders’ equity at these early stages,” Hannoun said in a foreword for MAGNiTT’s 2021 MENA Venture Debt Sentiment Report, produced in collaboration with SHUAA Capital.

According to the report, startups in the Middle East and North Africa (MENA) ranked non-dilutive capital as among the most influential factors when raising venture debt, and 80 percent of both investors and startups said they plan on using venture debt as a funding tool in the near future. 

Hannoun added that, due to its versatile nature and wide variety of potential structures, venture debt can also be of support when businesses run into a deficiency of short-term capital due to unexpected market circumstances, as was the case during pandemic lockdowns.

Cryptocurrencies and flying cars 

In addition to fintech, Hannoun said SHUAA Venture Partners is also interested in healthtech, and is closely watching breakthrough technologies like the metaverse, Web 3.0 and cryptocurrencies. 

“All of these technologies are becoming trends,” she said. “Right now, they’re hot and everybody is interested in them. From an investment strategy perspective, we don’t want to rush into anything too quickly because it’s important, particularly on the venture debt side, that the businesses we’re providing financing to are at a less risky stage.”

She added: “Cryptocurrencies, Web 3.0 and flying cars are all relevant. But what’s more relevant for us from the venture debt side is where we believe there will be applicability, technology we can see will have a use and purpose, and where there’s the ability to then monetise that investment. If you look at blockchain, for example, and how blockchain has evolved from when it was initially presented, the applications of it today are different to what it was initially intended for, or the way it was perceived to be.”

Hannoun added that the initiatives of the UAE and the wider Gulf to create an advanced legal framework for digital assets will drive not just marketplaces and exchanges but also more fundamental cryptocurrency companies to set up in the region.

In March, Dubai adopted a new law to regulate virtual assets and established the Dubai Virtual Assets Regulatory Authority to provide international standards for virtual asset industry governance.

“This means our universe in terms of how we can invest that capital is going to increase,” Hannoun said.

E-commerce, however, is not as exciting a sector of interest for the fund, she said.

“While I know there’s a huge amount of growth available for e-commerce and quick commerce, especially since there’s been a big shift in terms of behavioural trends from consumers, it’s one segment that we’re not overly excited about because its technology aspect is not always apparent,” she explained. 

“An e-commerce platform is not enough. Just because you have a website or an app and you’re selling stuff online, that doesn’t necessarily mean you’re going to be able to build a sustainable business that has a lot of growth potential.”

It’s all about market positioning

Asked whether SHUAA focuses more on the idea or how established a brand is in a pitch, Hannoun said both aspects matter. 

“The idea is important,” she said. “But if you look at how many of the companies that started off on one path and, as a result of external circumstances like the coronavirus, for example, had to pivot into something else and fundamentally change – that’s where the second part becomes important as well, which is your founders and your management. Ultimately, they’re the ones that are closest to the market, and they have to have the ability to transition the business into something that will continue to remain relevant and required by whatever customer base they’re serving.”

She added: “The other thing that’s important is not necessarily the brand name but market positioning in the space, where you can’t really have more than three players that would dominate the market. If you look at Uber and Careem as an example, they clearly dominate the market. There isn’t enough space in the market – usually – for more than three to five players. So it’s not necessarily the brand name, but the guys that have established themselves and have reached a certain scale by the time they’re looking to raise this financing.”

Future outlook

Looking ahead Hannoun said she believes that, although the number of venture debt providers in the region currently remains limited, the appetite for venture debt will continue to grow.

“It will become a better known product and it will be more readily available,” she said. “That may result in some pressure on the returns that we’re targeting, but I think we’re still a couple of years away from that.”

MENA investment sentiment

  • 74 percent of investors in the MENA region have at least one portfolio company that raised venture debt
  • 80 percent of investors believe at least one of their portfolio companies will raise venture debt in the next 18 months
  • Cost of debt was ranked the first most influential factor when considering venture debt for both investors and startups
  • 75 percent of startups who used venture debt as an instrument raised an amount of less than $5 million

Both investors and startups prefer a split investment round: only 24 percent of startups and 13 percent of investors would consider an equity-only round.

Source: MAGNiTT’s 2021 MENA Venture Debt Sentiment Report, produced in collaboration with SHUAA Capital