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Smart money talks

Resolutions for better exits

by Thomas Schellen

It had to be one of Lebanon’s top resolutions for 2016 when Banque du Liban Governor Riad Salameh pledged at the BDL Accelerate event in December to see to the establishment of an electronic stock exchange for small and medium enterprises. “Our aim for the year 2016 is to succeed in the launching of an electronic trading platform,” Salameh said in his speech to open the event, and told Executive after his speech that the prospectus for the new exchange will be circulated in January.

The creation of the electronic exchange for Small and Medium Enterprises (SMEs) is an important proposition and one that deserves to be monitored religiously, particularly after announcements for realizing the project within 2015 came to a quiet demise – possibly because the BDL governor had vocalized the project idea last year without any regulatory groundwork having been implemented by the Capital Markets Authority. This is probably also due to a margin of severe uncertainty over the ability to institute the SME exchange under the umbrella of the Beirut Stock Exchange (BSE).

Given that the privatization of the BSE is not a likely event in the 2016 timeframe, the prospectus for the SME electronic exchange should provide a private sector path to its creation. A hint in support of that may be Salameh’s remark in the December 10 speech that participants in the electronic trading platform will be “banks, financial companies, brokers, family offices [and] professionals”. Listings will be supervised by the Capital Markets Authority, he added. The purpose of the new mart is easy enough to divine: as per the governor, it will allow startups to list and provide exit opportunities for successful companies, with creation of liquidity in service of “startups and others” as its true aim.

Another motivating force in the establishment of the electronic exchange must be the limited lifespan of the central bank’s funding flow into the startup ecosystem under the famed Circular 331 that incentivizes banks to channel investments into knowledge economy ventures at greatly reduced risk. The system’s venture capital players such as the Berytech Fund II, which used the BDL Accelerate event to announce close to $20 million in startup investments, and Middle East Venture Partners (MEVP) need exit opportunities that jibe with the seven-year timespan of Circular 331 funding of up to $400 million; a small cap exchange will open part of that realm at least in principle.

It is beyond dispute that the ratio of market capitalization to gross domestic product in Lebanon is in serious need of improvement. However, an electronic exchange with a market capitalization of a few hundred million dollars would be nowhere near enough to lift the Lebanese market cap to GDP ratio into the 50 to 100 percent range that is often considered indicative of stronger economies when compared with very low ratios associated with poor countries or with countries at less than 50 percent ratio that are considered undervalued. In this regard, the call for creation of greater liquidity in Lebanese financial markets raises the question of what other securities, besides stocks in startups, the new privately-held and privately-run market could trade and if it would be instituted with an intent to challenge the Beirut Stock Exchange.

Better market mechanisms needed for Lebanon

The attention in the BDL Accelerate event’s opening session was fully focused on Governor Salameh, documenting the awareness that most of the Lebanese entrepreneurship ecosystem’s progress in the past three years is owed to the central bank. But notwithstanding the applause with which the crowd received Salameh’s electronic exchange announcement, the main thrust at BDL Accelerate was the quest for capital; a plurality of young entrepreneurs told Executive that they had raised funds, were engaged in fundraising or were seeking to raise money in early 2016 in a variety of funding stages. By contrast, these entrepreneurs’ — and also some investment bankers’ — comments on the potential and practicality of a Lebanese SME exchange were at best enthusiastic in the vaguely affirmative way of someone who has not given a lot of thought to the matter.

More important for the project of an electronic exchange is that promises and acclamations do not compensate for absence of market fundamentals. Well regulated stock markets are noted for their macroeconomic value as they facilitate price discovery, flows of capital, and efficiency. But markets need to be supported by adequate economic incentives and, as researchers for the Organization for Economic Co-operation and Development argued in 2013, “radically different intrinsic nature[s] of markets for large cap and small cap stocks” mandate that markets for small caps should be designed differently from large cap markets. How the proposition of a small cap market can work in an environment with an anemic large cap market is, from a common sense perspective, a question that needs to be asked when deploying a small cap exchange formula in Lebanon.

Small cap ventures are notorious for their liquidity risk, meaning that investors in SME stocks may not be able to divest of shares at the time and/or price they need. It has to be asked how an electronic exchange in Lebanon could be enabled to attract market participants in sufficient numbers on both sides of the equation, namely in terms of qualified investors and of startups that can qualify as issuers of equity. This question cannot be unreasonable in a financial market that has been defined by lack of liquidity for more than 10 years. So the compounded bigger question is if a country with a fledgling capital markets authority, a history of illiquidity in its stock exchange and no recent experience with any initial public offering or much activity in secondary markets can pull off the launch and invigoration of an electronic exchange that should probably achieve more than just help startups in price discovery.

Questing for hub appeal

When compared with the marketing talk about Lebanon’s role as emerging hub, the number of genuinely international startups that presented themselves in booths provided for free to entrepreneurs at BDL Accelerate was hardly a handful, among them a UK firm that took advantage of the UK–Lebanon Tech Hub avenue to come to the Middle East. And just as BDL Accelerate did not feel like a magnet for international participants outside of some very isolated cases, global eyeballs did not seem drawn to Beirut in any approximation of the great attractiveness that local promoters talk about. In December, for example, a Huffington Post piece on dark horses in the race to attract international startups to rising tech hubs pointed not to Beirut but to Amman as one of three worth taking a closer look at. Ironically, it was posted right at the time of BDL Accelerate. Other cities in MENA that recently found mention in stories on up-and-coming startup hubs worldwide included Tunis, Cairo, Dubai and Tehran besides the familiar international contenders in Asia, Europe and Latin America.

Of greater indicator value than such — usually partisan and typically somewhat coincidental — rising ecosystem stories or promotional messages about the attractiveness of startup hubs in this or that emerging economy may be the 2015 Global Startup Ecosystem Ranking of San Francisco-based firm Startup Compass Inc. Their report, while falling quite short of evaluating hubs from all parts of the world, made several noteworthy observations on trends in what Compass described as a rapidly emerging and interconnected global startup landscape.

In an observation on the environment for exits, the report expects Silicon Valley to stay in the lead for exit values for several more years but anticipates “ultimate convergence towards an equilibrium that looks a fairly conventional 80/20 power law” in the world’s 20 largest startup ecosystems, meaning that Silicon Valley would capture between 30 and 50 percent of the annual exit pie, followed by three ecosystems that combined would also capture 30 to 50 percent, and another 16 startup ecosystems that will draw in the remaining 20 percent of the exits pie.

Just as interesting as the startup exchange for the development prospects of tech ventures is the issue of Beirut’s startup-hub appeal beyond the ranks of resident and expatriate Lebanese that comprise the ecosystem’s natural stakeholders. The idea of advocating Lebanon as an internationally attractive hub was an important premise of BDL Accelerate. However, while the event constituted a great initiative for showcasing the emerging startup ecosystem, it came dressed up with marketing messages that were far stronger than the event organization. The gaps between advertorial lore of huge local and international participation (presences of “100 speakers, 200 exhibitors and 100 startups from around the world” had been trumpeted all over the media) and the reality of attendances were visible everywhere in the Beirut Forum venue but never more so than on the second day when scheduled discussions went completely off schedule and when main-stage speakers and moderators sparred in front of a thousand empty chairs, while the more vibrant conversations were those of the people queuing for free coffee and a doughnut at the convention’s “coffee sponsor”.

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Thomas Schellen

Thomas Schellen is Executive's editor-at-large. He has been reporting on Middle Eastern business and economy for over 20 years. Send mail

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