Finance SME Focus

State of SME Equity Investment in Dubai

In a bid to attract funding for small and medium enterprises (SMEs), Dubai SME, the agency of the Department of Economic Development (DED) mandated to develop the SME sector, has come out with a report – “The State of SME Equity Investment in Dubai.” The report outlines the means to attract equity investments and funding for SMEs.

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With “The State of SME Equity Investment in Dubai” report, Dubai SME has presented a case for investment in the sector from private equity (PE) investors, venture capitalists (VCs) and angel investors.

According to the report, the total value of capital investments in SMEs across Dubai amounted to nearly Dh110 million in 2014 and it is expected to grow by 15 per cent in the near term on the back of a 30 per cent growth in the number of deals, driven largely by activity from existing incubators/ accelerators and early-stage investment firms.

“The ‘State of SME Equity Investment’ report represents an ideal opportunity in the medium to long term, not only for SMEs in Dubai, but also for those across the region. The estimated total investment in small businesses in the region is about Dh3 billion and with clear strategies these funds can be channelled into sectors of vast growth potential,” said Sami Al Qamzi, Director General of DED.

Launched as part of the Dubai SME 2021 Strategic Plan, the report is aligned with the strategic economic direction of the UAE, particularly the focus of Dubai on innovation and investment towards building a knowledge economy.

Limited sources of funding to start businesses is a major gap in the SME ecosystem, which is underlined by the finding in the report that 80 per cent of the start-ups relied on self-financing as a source of capital.

“Based on the findings in the report, Dubai SME has formulated strategies and initiatives to improve SME performance in the years ahead, facilitate SME access to financing, and enhance SME competitiveness as well as their value-add to the UAE economy,” he said.

The report refers to the slow pace of innovation among SMEs in Dubai even when they have the potential to attract investment and remain growing.

“We will work on the recommendations in the report to fill the gaps identified, and promote equity financing, thus creating an environment conducive to SME growth and sustainable development in Dubai,” Abdul Basit Al Janahi, CEO of Dubai SME, said.

The report calls for robust insolvency and bankruptcy regime for onshore companies in the UAE and exploring the option of a secondary market, which would allow small and mid-sized companies to list without complex regulatory preconditions related to corporate governance and accounting.

A sponsor-supervised capital market model, which will allow an SME to be brought to list by a sponsor with expertise in corporate finance and regulatory compliance has also been suggested, in addition to allowing SMEs to raise capital up to a certain limit without significant regulatory burden.

The report recommends that there should be international standards to help investors assess the feasibility of business ideas as well as investment options in infrastructure, eco-innovation, including technical centers and centres of excellence in research and development. Absence of authoritative trading benchmarks makes investors apprehensive of investing in business ideas and evaluating risks, says the report.

Introduction

Dubai SME2021 plan includes 18 strategic initiatives grouped under 4 dimensions covering: Entrepreneurship Promotion, Policies and Regulations, Business Development programs, and Research & Statistics.  One of the main initiatives is “Promoting and equity financing culture”, which is significant to drive greater innovation, increased productivity and enhanced competitiveness.  In the first phase of the initiative, Dubai SME conducted a comprehensive study the SME equity financing landscape in Dubai and the wider region. The study included inputs from different stakeholder communities covering international best practices, Supply and Demand aspects in addition to the characteristics of the legal environment.

Key growth drivers

  • The market (in terms of value) is expected to grow in the near term by 15% on the back of a ~30% growth in the number of deals (fostered by an impetus in activity from existing incubators / accelerators and early-stage investment firms).
  • Additionally, the expected increase in the number of industry-specific incubators and accelerators expected to come online, triggered by strategic government investments; is likely to further boost a growth of startups within the economy.
  • UAE (particularly Dubai) has witnessed a lot of foreign interest from business angels in the US and Europe. There is an inherent opportunity to convert these into active investors, focused on UAE based businesses.
  • Equity financing as an alternate investment avenue is gaining rapid acceptance and interest among wealthy individuals as well as corporate professionals, via recently launched crowd funding platforms like Eureeca and organized angel groups such as EnVestors, Venture Souq, and WOMENA.

The relative uptake of equity financing is observed to be more pronounced among knowledge oriented sectors like ICT, Life Sciences, Media and Healthcare. These sectors are also intrinsically associated with a higher degree of creative and innovative output.

The limited adoption of equity finance in traditional sectors like trading and construction is mainly due to the characteristic of such firms typically reinvesting their surpluses into operations, principal reliance on short-term working capital and limited need for growth capital which is quintessentially associated with equity funding.

Demand-side Perspectives:

From the demand side, the key inferences are based on a survey of 250 SME businesses, belonging to sectors that have a high propensity for uptake of equity funding. Out of these 250 SMEs, 98 have actually sought equity investment.Looking at the key characteristics of entrepreneurs who successfully availed equity financing, we find that:

  •   85% are male
  •   79% are corporate crossovers
  •  68% have no prior entrepreneurial background
  • More than 70% are between 30-40 years old.

Additionally, SMEs who successfully availed equity financing, were found to have the following characteristics:

  • More than 80% of them have an operating vintage of less than 3 years;
  • More than 50% have less than 10 employees
  • Majority of the SMEs (57%) within the respondent set are early startups with a sales turnover of less than AED 10mn
  •  81% have B2B business models

The Key challenges that were highlighted by entrepreneurs included:

  • The difficulty of identifying relevant investors
  • The need to access relevant advisory support (to negotiate terms and structure the deal)
  • Lack of Post investment follow-on funding
  • Non-cash support (access to contacts, networks, opportunities) from the investor

Supply-side Perspectives:

On the supply side, Out of 200 angel investors covered in the study (majority of them based in Dubai)

  • 33% of them are ‘Active’ angels making at least one investment in a year.
  • They typically tend to invest in the range of USD 50,000 to 300,000 in exchange for a 15% – 20% equity stake, in the target business.
  • 96% male, 88% expats, and 69% have Masters or PhD degrees

The main challenges highlighted by investors included the facts that:-

  • There are no specific regulations relating to the accreditation and qualification of individual investors;
  • There are no regulations related to crowd-funding
  • In addition, One of the key challenges faced by investors is registering changes to share capital (related to uncertainty & lengthy procedures in relation to onshore and offshore requirements).

Legal recommendations: 

The study has also covered the legal environment and identified many areas for improvement in order to make Dubai more investor friendly, to mention couple of these recommendations:-

– Adopting a robust insolvency and bankruptcy regime onshore.

– Implementing a secondary market (with robust set of company laws); to list without complex regulatory preconditions related to corporate governance, prospect preparation and accounting regulations.

–   Introducing a sponsor supervised capital market model (e.g. Catalist in Singapore and AIM in UK), wherein an SME is brought to list by a sponsor with expertise in corporate finance and regulatory compliance.

–  Setting-up of ‘Professional Advisory Committees’ to provide counsel and advisory for specific components of the UAE legislation as well as changes in the investment environment (capital markets, crowd-funding, fund structures, etc.).

–  Enhancing collective investment regulations to structure open and close ended retail fund structures on the mainland.

–  Developing a robust regulatory framework for crowd-funding to legalize and stimulate lending.

–  Deploying certain relaxation criteria related to foreign ownership restrictions for priority sectors.

– Deploying cost effective ‘Small Claims Court’ framework for small financial claims (serves as a huge boost to investor and SME confidence)

About the author

SPI Group

SPI Group is a well known publishing house in the Middle Eastern region. The group possesses three premium publications: Intelligent SME, Robust RAK and Apps Middle East. The group also conducts the Emirates NBD Global Business Series, The SME World Summit and The Global App Summit.

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