The Investment Environment in Jordan


Challenges and Opportunities

Challenges are opportunities in disguise. The solutions to these challenges create the opportunities. For Jordan, the mother of all these challenges is the creation of an environment where bold ideas are transformed into capital-generating businesses and industries. More so, who really needs natural resources when local entrepreneurship thrives, creating regional and international ventures that generate sustainable economic wealth?

By Bilal Hijjawi

The Early Stage Emile Cubeisy

The Arab Bank, Aramex, Maktoob, Ikoo, Rubicon, Shoofeetv, Jeeran, Arab Advisors, Pharmacy-1, IrisGuard, Eskadenia, Kindisoft, MenaITech, STS, D1G, Es- tarta, Ikbis, Watwet, Talasim, Kharabeesh, Ijazza, Millennium Energy Industries, Adritec Group International and Hikma, were all ideas turned successful ventures. Jordanian entrepreneurs created them, leaving an indelible mark on Jordan and the region. The list goes on and on, and yet the momentum of this entrepreneurial drive has actually just started.

When IV Holdings was launched in April 2008 they received no more than three investment proposals a month from entrepreneurs. Today, the company gets a deal a day. “Jordan has entered a tipping point in entrepreneurship,” says Emile Cubeisy, Managing Director at IV Holdings. The Jordanian investment company is wholly owned by Accelerator Technologies Holdings, the larger investment company.

Jordanians are not new to creating winning companies locally and regionally. “We have historically been an entrepreneurial culture,” he adds. What has changed now, he says, is that the small and medium size enterprise (SME) base has become infused with aggressive entrepreneurs and new capital.

In the last 10 years or so more VC funds have been increasing in size and number. The challenge, however, is that VC culture in Jordan is still novice. While Jordanians have always been willing to take risks in building businesses locally and in other countries, a large-scale entrepreneurship generation as globally defined is still missing. “We have the ability to build world class companies; the difference now is that there’s a little more fertile ground for ideas to grow more rapidly,” says Cubeisy.

While many more Jordanians have good business ideas, there is not enough capital in the market to address the collective rise of demand. This is another challenge, says Cubeisy. “If you look at the growth of innovation and the work force and compare them to the growth in the amount of capital flowing into the country, you’ll realize that there’s a scarcity of capital in Jordan.”

For established and revenue generating SMEs (companies with more than 50 employees and less than 250) in Jordan, growth capital is easier to locate while early stage funding is still hard to find. Such market reality puts IV Holdings in a special league as it focuses on startups and early stage ventures. It invests in Internet and interactive space: content, technology, monetization platforms or web traffic.

As such, IV Holding’s upside potential is much greater than traditional invest- ment firms as younger companies usually experience a greater growth potential. One successful venture can translate to a windfall of returns. A company like Maktoob was started a decade ago on a shoestring budget, then sold to Yahoo for more than $150 million (unofficial estimate).

Even with companies like IV Holdings investing in the early stage of projects, the real deal for young and ambitious entrepreneurs entering the market is to secure seeding capital. This stage in the financial eco system, or the culture of entrepreneurship in Jordan and the region, is still largely missing, says Cubeisy. In countries like the US, the first round of financing often comes from family and friends or from angel investors. Sadly, the region’s only angel investment network, which was launched in Dubai, was liquidated recently.

IV Holdings still finances entrepreneurial teams that have started to organize themselves around an original and plausible idea; but this approach isn’t at the core of their investment strategy. Cubeisy is focused on the high end of an angel stage, which is under $2.5 million in funding requirements. They look specifically for entrepreneurs and companies who identified a niche in the market; have quantified the potential of their gap, and have a clear solution for bridging it. “Ultimately we look for the approach of how a solution intends to solve the problem,” he says.

Cubeisy developed his own formula for measuring the potential success of the investment he considers entering. “My formula for evaluating ideas is C+I = P. It’s capability plus incentive equals productivity.”

With early stage companies relying to a great extent on the motivation and dedication of their entrepreneurs, IV Holdings seeks only a minority share when investing. “You have to keep the entrepreneur feeling a sense of ownership; it’s important for us that the entrepreneur is empowered so he runs his business in the most dynamic manner possible. Ultimately you’re investing in people.”

When it comes to capability, it’s more complex. Each project has one or more missing component in this area. IV Holdings, as all VCs in Jordan do, leverages ample resources to get their companies to the next level. “No two companies are missing the same capability component; every entrepreneur has gaps that are fundamentally different from the other,” he adds. This, he says, depends on the maturity of the entrepreneur. The firm has dealt with second-generation entrepreneurs that have bought and sold many ventures before they approached IV Holdings. “Other companies are stronger in strategic planning and know their business space very well but lack financial insight.”

Khaldoon Tabaza

Investing in SME space

Last month, Riyada Enterprise Development was fully acquired by Dubai-based Abraaj Capital, the biggest private equity investment firm in the MENA and South Asia region (MENASA). The company is structured to take advantage of investments in the SME space, which are usually larger companies in size and have a proven track record in revenues.

Riyada’s CEO Khaldoon Tabaza, himself once an entrepreneur and later a pioneer in the region’s VC industry, says joining Abraaj meant access to a MENASA-fund that totals $500 million, giving him a war chest for investing in the SME space in a large region. A small part of the fund would be earmarked as venture capital for Jordan only.

“Toward the end of 2009 the Maktoob acquisition by Yahoo created the perfect storm for a rise of interest in investment and venture capital,” Tabaza says. With much of the capital that was invested in real estate in the last few years underperforming, investors are now more focused on productive sectors that are proprietary and technology-based.

According to research by Riyada, the challenge and opportunity for developing economies can be found in the fact that SMEs employ 72 percent of the work force while they contribute less than 25 percent to GDP. “Compare this to developed economies, where SMEs employ 50 percent of the total workforce and generate 50 percent of the GDP to see that a big gap exists in our region,” he adds. As such, creating efficiencies in the companies acquired would increase return on investment. Most VC funds enter into companies, leverage their resources to bulk them up, and then exit when the market offers them a high premium.

Obviously many of the SMEs in Jordan and the region are not fundable as they’re mostly made up of corner shops, or they’re simply business vehicles to afford their owners a reasonable lifestyle. What Tabaza is interested in are the companies that operate in innovative sectors, such as manufacturing, knowledge industries and professional services.

“Among those SMEs you will find a silver lining of growing and attractive companies that have the ability to move from $5 million to $100 million in revenues over time. There’s clearly an opportunity to increase the efficiency, value and contribution of these SMEs in the national economy – for us that makes for a great investment opportunity.”

Under Abraaj, Riyada will be able to leverage a network of 150 professionals, original products and specialized investment services that cater to entrepreneurs. “We’re blessed to have access to such a large fund, a platform of partner companies, advisors, board members and service providers across the region.” Before Riyada was acquired it had concluded about 60 engagements, which is more than any other company in its rank.

Tabaza is confident he will find the unpolished gems he’s looking for in the SME space of Jordan. “Jordanians are technically very competent and they’ve been globalized; their exposure to the world has challenged their perceptions of what opportunities are; now they’re realizing that they can also address regional gaps.”

Riyada doesn’t discount companies that have large local and regional presence; it, however, prefers companies that have a global potential. "You’ll be surprised to learn how many companies in today’s interconnected markets have potential. Such companies present the higher challenges and the bigger opportunities.”

To locate such companies, Riyada engages markets that are at an inflection point, as in ready to take off, and markets that are large. The company’s investment teams eviscerate potential ventures before they’re ready to take up equity; they consider the barriers to market entry, available know-how, intellectual copyrights and the team’s potential. “We think and operate in terms of the three Ps: People, Product and Potential; but most importantly, we look at our ability to add value to these companies,” he says.

The state of the acquired

Nashat Masri Investing in growth-stage companies can be a complex feat for any fund manager. Naturally, the risks are always plenty when the rewards are higher. In Jordan most VCs have learned this the hard way, that there is usually more trouble in the acquired assets than meets the eye. The problem is that no matter how much due diligence is done, much of the trouble only surfaces after the acquisition is concluded. After all, the core asset of any venture deal is its people – unpredictable and a variable component. Bigger corporations are mostly better managed because they invest more in systems, building proper management information systems and following global corporate practices. When the targeted are small and medium sized companies, VCs have no choice but to pull up their sleeves and dig into the daily operations, according to Nashat Masri, Founder and Partner of Foursan Group.

“One of my biggest disappointments is that many of the SMEs never really want to make the transition to competitive corporate entities. They don’t respond well to corporate governance or the concept of a uniquely regional entity,” says Masri.

As a fund manager, Foursan interacts six times a year in the early stages of their investment, and still they would like to be more involved in some of their investments. “It’s shocking how bad Jordanian companies can be in capital management; let alone their average performance on issues related to operations, strategy and business development,” he adds. “Our job is to transform them.”

Citing an example, he says some companies would get multiple loans from different sources that are maturing at different times, with each requiring a different cash flow at different months. Their advice for such a company is simple: opt for a bond issue to consolidate and lower the cost of debt service. Another example he gives regards companies that fund their entire business with equity when they can instead rely on debt to release capital for business development and growth.

When VCs invest in a company they see an unrealized potential. In Jordan, which still lacks exposure to the culture of VCs and entrepreneurship, the approach of a minority equity investor can be perceived as threatening to company owners. “There’s generally a defensive attitude between the big owners of a company and private equity investors. “Yes, we might look a bit aggressive as we try to push a certain agenda inside these companies.” Foursan sometimes opts for a neutral, well credentialed outsider to run the company, in order to avoid conflict “We’re totally objective as investors; we just want to do the right thing because we’re only compensated when we do well.” This explains why Foursan is now considering a change to their strategy, which will see them acquiring higher stakes in companies.

Funds also come across big winners in the Jordanian market. For example, Foursan invested with the Arab Orient Insurance Company, a spectacular turn- around business in Jordan. “This insurance company had great management. We bought into it but the credit for fixing it truly goes to their management team for taking the company from almost the worst company in the industry to the best one.” Foursan later exited, selling it to a French insurance giant at a much higher premium than what the Jordanian market was willing to offer. The insurance deal illustrates what a VC preaches, that there’s a hidden potential and value in some SMEs and early stage ventures that ultimately translate to substantial gains for investors and founders. “The French were looking for a deal in Jordan that has a clean balance sheet, good corporate practices and rated by one of the rating agencies; one where there’s transparency on the books and where managers have their answers ready.

For such a company, they were willing to pay the highest premium. This is the difference in capital value that well run companies have; and there are many big foreign companies interested in expanding into the Arab world,” Masri says.

What Foursan’s team does from the onset is to sit with the company to figure out what needs fixing or what is missing from their operational and strategic jigsaw. They strategize on image, brand and its attributes, marketing strategy and financial structure. “You’d think companies spend money on such aspects when they have a good product but most don’t and the potential of their product is usually half met,” Masri says.

Last year Foursan sold three companies and has generated a good return on investment on average. “On one of them [companies sold] we had three and a half times our cash over our hold period, which was three years. Our IRR [net return] is in the forties so far,” he says.

But for private closed funds, IRR isn’t the best valuation at any certain point in time unless it reflects the average performance over extended periods. “Everyone cherry-picks their numbers,” Masri adds. If, for example, a fund decides to exit one of its investments while realizing a loss immediately after it publishes its IRR, its new IRR would change. Valuating private closed funds isn't an exact science because the underlined assets are not floated in financial markets, whereas the market value for floated shares in mutual or public funds can easily be determined at any time. Foursan’s fund guidelines do not allow it to invest more than 15 percent of the fund in any one company or more than 30 percent in any one industry.

Strategic Industry Funds

While Masri’s Foursan and Tabaza’s Riyada Enterprise Development are generalist funds, spreading their investments across different industries, Cubeisy’s IV Holdings is specialized in the Internet and interactive space.

Ennis Rimawi manages the Catalyst Private Equity fund, which is specialized in the industries of energy and water. “Establishing a fund organically in a new area was more challenging than expected in terms of getting interest from the investor side. To our surprise, the international organizations that have developmental objectives like OPIC and the IFC and others seem to have much clearer interest and advanced processes in evaluating such opportunities, because they have the maturity and have seen it work in other areas of the world,” says Rimawi, managing partner and founder of Catalyst Private Equity.

Ennis Rimawi

OPIC and IFC are international organizations offering a substantial pool of credit for developing economies to support their industries. Both Catalyst and Foursan secured access to OPIC’s $500-million credit pool, which offers them a certain percentage of the total investment they manage to raise privately.

“They’ve committed $30 million to our fund but we can’t tap into it until we have $30 million in private equity raised. Normal banks rarely provide debt secured by equity in our region; even asset-based lending is difficult to get,” adds Rimawi.

Masri’s Foursan fund aims to reach $200 million in capital eventually and currently manages $100 million. To date, Foursan had been approved for $50 million of OPIC credit but hasn’t yet accessed it.

As policy, OPIC wants to see the funds they support investing in Jordan and the Levant. Recently, the organization asked fund managers to apply for a $75 million credit pool and 13 funds submitted applications. The applicants can be the greatest minds on the planet but they won’t get OPIC’s funding until they make a case that addresses preset conditions including investment ideas, and geographical region among others.

The OPIC condition that access to credit requires that the borrower first must find private investors has proven a big challenge to Rimawi. “A traditional fund structure is a black box that Arab investors are not used to investing in; this means a fund has strategy, a team, a pipeline of potential investments over which the fund investor doesn’t have direct decision authority,” he adds.

Fund investors get reporting from the fund manager, who accepts their comments but does not allow interference in strategy. “That’s an investment concept that isn’t yet mature in our region and when you apply that to earlier stage companies that are knowledge-based and without track record it creates another limitation when looking for investors,” Rimawi says. The other limitation he encountered was that his fund didn’t have big institutions backing them up. “Many funds never take off,” he adds.

While most funds wait until the targeted capital is reached, Catalyst proceeded with investment when they reached $8 million of their target of $100 million. “We were different than others. We followed a bootstrap approach, which is to start growing organically to establish a track record in the earliest possible time,” Rimawi says.

Rimawi has a lot of confidence in Catalyst’s energy and water investment strategy. After all, the strategy makes perfect sense for the Arab region, which imports almost all of its products and services in such highly strategic and national-security sensitive sectors of energy and water. In spite of the general skepticism among Arab investors for investing in funds, his argument sells well in the circles of industry that Catalyst is tapping.

“We talked to over 30 investors before getting one on board. Those that came usually have a shared vision for our industries; they understand the strategic value we’re adding to the sectors of energy and water. They agree that building sustainable knowledge in this industry is crucial for the region,” he explains.

Finding regional water and energy companies with valuable proprietary products wasn't easy. Most of the companies they investigate offer medium tech and, proven revenues and a sustainable client base. “We’ve received 240 opportunities to date and we filtered those down to 10 percent. Those that met our criteria were only 20 percent of that 10 percent, which is about two percent or four companies,” he adds.

Catalyst’s intention was to provide just strategic guidance with some operational input expected. Ideally, the fund manger invests the heaviest load of interaction in the first year or two of the investment. “We make a big component in the management; we’ve had actual leadership roles. In some sense we didn’t expect this much involvement but we were happy to have the experience to help accelerate and turn the companies around,” says Rimawi.

The rewards of their heavy involvement have paid off. Millennium Energy Indus- tries has been signing bigger contracts in the region as an alternative energy player. Last month they signed a multimillion- dollar contract in the Gulf to implement the largest solar hot water plant in the world (17 megawatts). “It was a tough project to crack but the company has done it finally,” he says.

Investment potential is a market environment issue Almost all investors decry the lack of integration and cohesiveness of the different country markets of the Arab world. “Ultimately, what all investors need is to serve bigger markets,” says Masri. “The time it takes to cross between the state markets of the US and EU is milliseconds, while in the Arab world we live in 22 countries divided by borders and visas,” he adds. He further explains that this has a great negative impact on the competitiveness of markets for capital because investments prefer large and integrated market geographies.

Tabaza says most private equity firms have traditionally been geared towards large transactions. “You were seeing the $250 million transactions and the region even reached $1 billion transactions. But those have decreased now. The traditional players have overlooked the smaller

opportunities, creating a funding gap for companies with a high growth potential and a current $1 to $5 million in revenues. This is the area we’re focused on and where need for funding is high,” he adds.

Cubeisy agrees, the ball is in the court of VCs now. “Most regional investors in the boom years of the last decade were focused on larger private equity deals that have brought them lower returns on investment. They’ve neglected the rest of the investment eco system,” he says. This, he believes, could be changing as investors look for higher returns on their capital and are willing to take more risks.

Rimawi believes Arab investors have neglected to look at technology that is strategic to the region. “I only know two funds that focused on technology and the rest have failed to raise the required target of investment capital,” he adds.

But with funds starting to deliver tangible rewards, he says he’s confident that many other funds will be founded in the future. “I’m happy about our own progress and it’s been a lot of hard work; perhaps harder than we ever expected but now we’re reaping the fruits.”

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