A new study says the ecosystem for MENA entrepreneurs has improved, but challenges remain in terms of finding investors and scaling growth.

When Tunisian gaming studio Digital Media launched a new game in 2013, it captured press attention partly for competing in a space populated by few other Arab companies. Among those singing its praises was Wamda, a Middle East and North Africa (MENA) region platform with a goal of empowering regional entrepreneurs through investment, content and programs.

But the surge of coverage did not help Digital Media’s game offering, and the company had to admit it failed because of some missteps in product design, marketing and distribution. Returning this July to check on the young company’s progress, Wamda found that, despite the setback, Digital Media is about to generate its first profits.

The game studio’s story is one of dozens that Wamda has highlighted in its ongoing efforts to present concrete examples of Arab entrepreneurs to the rest of the world, while providing relatable lessons and guidance to would-be entrepreneurs striving in a region stigmatized by a perceived lack of innovation.

A new report by Wamda Research Lab, which is a part of Wamda, looks deeper into funding for start-ups, and finds that capital is finally being freed up for investment within the region for young companies. Rebounding from the financial and economic crisis of 2009, there has been a three-fold increase in the number of investments into regional start-ups, according to Wamda.

“Several years ago, there were only a handful of sources of capital for start-ups; now we have identified around 50,” says the report’s author, Jamil Wyne. “That does not mean that the full demand has been met, but supply has certainly been increasing. Additionally, knowledge of the different types and sizes of funding in the region is growing, so general know-how on the investment cycle is spreading.”

Low Investment Range

Wyne added that the median investment range was $100,000-149,000, which he says fits the young nature of the region’s current start-up ecosystem. “We know from investors and entrepreneurs who we interviewed that larger funding is still very hard to come by. So even if the numbers suggest that the ecosystem is still young, many companies are already looking for larger funding sizes.”

That desire for larger funding pushes start-ups to look outside MENA. However, there are more regional investors creating funds for local investment, Wamda found — 50 funding sources in 2012 compared to less than 20 in 2008, with 83% planning to expand activity. Success will bring more investors into the region, Wyne notes.

… the emerging entrepreneur profile in the Middle East is an Arab in his twenties to early thirties, 74% with study or work experience abroad. Their initial resources still come from savings or family wealth.

The majority of companies getting funding are in the online and tech space, with Jordanian and Egyptian start-ups accounting for 40% of net investments, the study found. It also pointed out that getting additional financial support is still a stumbling block for most MENA start-ups — 68% of companies surveyed said they received only one round of funding.

“Minimal bank lending is a substantial challenge,” Wyne says. “Having access to loans — and in general a banking system that more actively supports SMEs [small and medium enterprises] — can go a long way for many of these companies. Only 12% of the companies we surveyed had received bank loans and, globally, MENA already ranks low in terms of SME lending.”

Earlier this year, Wamda released its first report looking at challenges and resource access for MENA entrepreneurship and enterprise growth. The broad survey of nearly 950 Arab entrepreneurs and entrepreneurship experts was the first of its kind, providing findings in an area lacking solid research.

Opening Offices Elsewhere

One key finding of the report is that over 70% of entrepreneurs surveyed planned on opening an office, with the majority preferring to base themselves in the Gulf states. The United Arab Emirates (UAE), Qatar and Saudi Arabia are prime locations.

Wyne says the relative wealth of these Gulf countries may provide them with the resources and investors able to support entrepreneurs. The populations have high rates of smartphone penetration and access to other online tools and resources.

“However, I don’t think that these assets make it difficult for other countries in the region to create their own entrepreneur, start-up or SME communities,” Wyne adds. “One thing that we learned in the study was that it is important to think of countries in the region as linked, at least in terms of the pathways to scale that entrepreneurs will take.”

Wyne points out another critical finding of Wamda’s study — the emerging entrepreneur profile in the Middle East is an Arab in his twenties to early thirties, 74% with study or work experience abroad. Their initial resources still come from savings or family wealth.

What entrepreneurship organizations can do is work with entities to broaden research and understanding of the challenges facing regional entrepreneurs as a whole …

“This is not necessarily that different from global numbers, though it does not mean that MENA should be satisfied with being part of the status quo,” Wyne says, adding that the figures showed the challenges to regional governments seeking to broaden entrepreneurship. “I would argue that if [the region] wants to make the most of its efforts to support entrepreneurship, it should also develop best practices of its own. So if policymakers want entrepreneurship to be part of an economic development strategy in MENA, then one of these best practices can be finding ways to develop a more inclusive ecosystem.”

He suggests there could be programs and initiatives focused on rural areas and industries, and an exploration of partnerships with microfinance institutions, which he says could help to identify promising local ventures that would benefit from wider exposure.

Some of the report’s findings are already common knowledge among those who have started their own companies in MENA: Stumbling blocks to growth for fledgling companies remain the same, including a lack of access to capital, an inability to communicate or connect with investors, and the need to find the right local partner in order to break into a market.

Garnering investment remains a challenge, Wyne notes. But there is not just one reason why that is the case. “We need to develop a better understanding of what increasing the supply really entails. The stage of the company and type of funding are important factors to consider. We have an upcoming report that focuses on this topic and points to issues of the diversity of funding sources, size of funding, relationships with investors and entrepreneurs’ financial literacy skills. These are all areas that need to be understood to effectively improve conditions for enterprise finance.”

A Fragmented Market

While the challenge to generate revenues is a problem that start-ups and young companies anywhere in the world will face, Wyne notes again that, because it is a fragmented market spread across geographies from the tip of Europe to the Arabian Ocean, entrepreneurs in the MENA region face a unique issue in scaling growth.

“What distinguishes them from entrepreneurs in at least some other regions is the fact that MENA companies that want to attain a high-level of growth need to think about entering multiple countries from an early stage,” Wyne says. “We saw that even young companies in our sample already had their sights set on expanding into other countries within the next one to two years. This is true even for entrepreneurs in large countries such as Egypt and wealthy ones such as the UAE. Acquiring customers in new countries will, of course, necessitate developing tailored marketing and sales strategies for each country and going through the process of generating cash from these efforts.”

The report noted that such widespread geography presents an ongoing challenge for companies that rely on shipments to buy and sell products, as customs tariffs and the process of cross-border trade, even between neighboring Arab countries, remain opaque.

“As mentioned in the report, because the markets are young, especially when it comes to e-commerce and other online services, entrepreneurs cannot simply wait for customers to come around,” Wyne says. “They need to find a way to work around the barriers. However, it is also important to keep in mind that there are customs costs and a general vagueness around customs processes that can limit the efficacy of these e-commerce solutions. In other words, different payment and shipping innovations are needed, but there is also a need for easing customs-related obstacles and general challenges with dealing with borders.”

Government Red Tape

Geography extends into another government-related issue affecting regional entrepreneurs, which is the cost and time involved in setting up according to local regulations, and then obtaining visas for employees. The process often forces fledgling companies to seek out a local partner with the connections to ensure paperwork is handled efficiently and that local business requirements are met with approvals. Still, Wyne adds, entrepreneurs need to do their diligence before selecting a partner.

“General knowledge of how to enter the market from an administrative standpoint is challenging and can vary from country to country,” he says. “Additionally, understanding who relevant partners are, finding ones that share the vision, and agreeing on terms that fit the legal context are all contingent on having good knowledge of the market. There is also a fundamental logistical challenge at play here. Traveling to and from countries to assess market potential and find partners is costly and time-consuming for young companies. Obtaining visas in the region can also be expensive, especially when entrepreneurs need to bring staff with them and relocate them to new offices. In any of these cases, having connections can help, but it doesn’t erase the challenges or necessarily make the process easy.”

But now more than ever, the report notes, regional entrepreneurs can find support and camaraderie in entrepreneurship organizations to find solutions to these challenges. According to the Wamda Research Lab study, over a decade ago there were less than 20 such groups in the region; now there are over 140. Additionally, a number of new funds aimed at investing in Arab start-ups have been launched in the past year alone.

Wyne says the growth of entrepreneurship institutions is encouraging, but more needs to happen in tandem. “While new sources of finance, incubation and training have an important role to play and the supply of each is increasing, policy, societal perceptions of entrepreneurship and other systemic factors that also influence the ecosystem — all of which play a role in either reinforcing or overcoming these challenges — are not necessarily keeping up. If these elements are not evolving in parallel, then it will be more difficult to address these challenges effectively.”

What entrepreneurship organizations can do is work with entities to broaden research and understanding of the challenges facing regional entrepreneurs as a whole, Wyne suggests.

One area of improvement that entrepreneurs and investors can take on independently is the issue of communication, Wyne adds. “Communication and understanding decision processes play a role in the investment equation. It’s easy to focus just on the need to increase the supply of funding and to get caught up in the argument that if more capital was made available, there would be more success stories.”

The fact that there are non-financial issues at play is important to emphasize, according to Wyne. “Freeing up investment or debt funding is critical, and both experts and entrepreneurs in our survey pointed to this. However, in the survey and follow-up interviews, numerous non-financial issues [came up] that … add to the challenges of obtaining investment in MENA.” These additional factors varied, he notes. “In some cases investors, and even entrepreneurs, argued that there would be more investment activity if there were a steadier flow of scalable business deals. Others pointed to a need for both sides to have more frequent dialogue to better understand the needs, concerns and general decision-making processes of each other. These issues aren’t unique to MENA, but nonetheless important to improving investment conditions.”

*[This article was originally published by Fair Observer’s content partner, Knowledge@Wharton.]

The views expressed in this article are the author’s own and do not necessarily reflect Fair Observer’s editorial policy.

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