Saudi Venture Capital Company's Nabeel Koshak On Creating a Healthy Investor Ecosystem in Saudi Arabia Saudi Venture Capital Company is a government-backed investment company with US$1.5 billion in assets under management, aiming to stimulate and sustain financing for startups and SMEs from pre-seed to pre-initial public offering.

In 2018, Saudi Venture Capital Company, more commonly referred to as SVC, came on the scene to help drive investment into Saudi startups and SMEs. SVC is a government-backed investment company with US$1.5 billion in assets under management (AUM), aiming to stimulate and sustain financing for startups and SMEs from pre-seed to pre-initial public offering (IPO). The organization is a subsidiary of the SME Bank, one of the development banks affiliated with the National Development Fund, and was established to support the efforts of growing SMEs contribution to the GDP from 20% (a 2016 baseline) to 35% by 2030.

"So, the question we had to ask ourselves was: how can we stimulate more venture capital (VC) and private equity (PE) investments?" says Dr. Nabeel Koshak, CEO and Board Member at SVC. "Once we conducted a thorough global benchmarking exercise on how various countries had done it, two broad-level programs were identified, which was the Investment in Funds Program, and the Co-Investment in Startups Program." Canada, Singapore, United Kingdom, Brazil, South Korea, and the European Union were just some of the government's assessed for the benchmarking exercise.

The premise behind the efficacy of a fund of funds is quite simple. A healthy startup ecosystem requires access to capital, so that startups can fund and grow themselves. For that to occur, there must be a strong base of VCs and private investors in the market, providing optionality to startups. In a young startup ecosystem such as Saudi Arabia, VC firms are often few and far between, and they can often be considered startup funds themselves. Thus, governments around the world have stepped in to help finance and stimulate the development of fund managers, who play a key role in growing their home startup ecosystem.

Investment in funds or a "fund of funds" is thus important in the development of a healthy venture investment ecosystem in any country. Venture capital and private equity funds both need limited partners (LPs) in their funds, who are essentially investors that feed their funds. "Without this investment, VC and PE fund managers may choose to launch their funds elsewhere, taking their focus away from the Saudi market," says Koshak. In a startup ecosystem in its infancy, fund of funds like SVC and Jada support first-time fund managers to raise capital and prove themselves. "Raising a first-time fund is very difficult, because few limited partners (LPs) want to take a chance on a player with no track record," says Nora Alsarhan, Chief Investment Officer at SVC. "SVC is often the first check in for first-time fund managers, which allows for the birth of several investment funds across the Kingdom."

With co-investing in startups, SVC builds investor confidence in local startups with its investment strategy. At the beginning, SVC was matching startup investments made by local angel investors, while providing added incentives such as profit-sharing up to 90%. This significantly de-risked investments for angel investors. "It's important to note that, as a government-backed investor, we don't lead investment rounds," says Dr. Osamah Alamri, Chief Strategy Officer at SVC. "We support and increase access to capital, but we rely on local and global fund managers and angel investors to lead the way. So that means we aren't meeting with entrepreneurs ourselves; we rely on the co-investor from the private sector to have the active role."

Related: On The Fast Track: Saudi Arabia's Entrepreneurship Ecosystem

Image courtesy SVC/Lucidity Insights.

Thus far, SVC has invested in 35 funds and co-invested with 16 institutional investors, and 56 angel investors from five angel groups, which have directly impacted investments in approximately 525 startups and SMEs. The size of SVC's fund has recently increased from $1 billion AUM to $1.5 billion (SAR5.7 billion) AUM. Today, with the AUM growing to $1.5 billion, SVC's allocation is about 90% for investment in funds and 10% for co-investment in startups. "When we started, we were a gap filler," says Dr. Koshak. "This required us to look at the gaps from angel and pre-seed, all the way to pre-IPO stages. The largest gap in the market when we initially started had been in seed and pre-seed investments, due to where the market maturity was. Today, we are seeing it move up the value chain, and we are seeing gaps in later stages, beyond Series B."

To address the pre-seed and seed stage gaps, SVC launched an Investment in Accelerator and Startup Studio Funds product in 2021. "We like this because VC-backed accelerators and startup studios have skin in the game," Koshak says. "Unlike the 'innovation labs' or 'innovation theatre' models, we like investing in investor-backed product offerings." Meanwhile, the Angel Co-Investment in Startups seeks to support angel investors to build-out professional investment experience that cater to the pre-seed and seed stages. Of this, Koshak says, "We're happy to see that there are five angel investor groups that are quite active in Saudi Arabia today, and they play a critical role in the startup ecosystem."

SVC also co-invests with institutional investors (i.e. fund managers) when there is an equity financing gap, or to catalyze later-stage investments for strategic or financially-driven objectives. (Unifonic and Sary are two of the beneficiaries of these programs.) At the same time, SVC is also tasked with developing the private equity market in the Kingdom. For this development, SVC also invests in private equity funds that invest in SMEs with growth potential from outside the tech sector, in areas such as tourism, entertainment, or manufacturing. Non-tech related SMEs are also important for the Kingdom's entrepreneurial ecosystem, and they are also expected to contribute significantly to the Kingdom's non-oil GDP. It's important not to forget these entrepreneurs, and ensure they also have greater access to alternative funding.

Due to the dynamic evolvement of the Saudi VC ecosystem, SVC's strategy is reviewed quarterly to ensure that existing equity funding gaps are minimized, and the private investors are properly stimulated. Its role as a market maker require SVC to be both agile and careful. SVC, being a government-backed fund, isn't solely commercially driven; SVC also places high value on developmental activities. To this, Koshak comments, "if we were only commercially-driven, we may not invest in first-time fund managers. We need to support newcomers, and despite the due diligence process we go through, this dramatically increases our exposure to the risk that some of the funds we back may not succeed as planned. But that's the risk we need to take, if we are going to play a developmental role in the market."

One of SVC's ecosystem stimulation approaches first implemented by SVC in the early years, which we learned about through interviews with various VCs was a generous incentive program. The incentive was provided by SVC to angel investors when it co-invested with them. SVC would match their coinvestment partners' investment, while waiving 90% of SVC's carried interest, sweetening the upside for investors in the ecosystem to take risks, and invest in local startups. Every year, as the market matures, this incentive shrinks, and today, the incentive waives 60% of SVCs carried interest.

Image courtesy SVC/Lucidity Insights.

Another requirement of co-investment from SVC is that the startup must be Saudi-based. "The nature of venture capital is cross-border and international, so we don't require the funds we invest in to be exclusively focused on Saudi Arabia," Koshak explains. "But we do ask that SVC's financial contribution in their fund to be earmarked for either Saudi-based startups or international startups with significant operations (i.e. expenses) in the Kingdom."

SVC isn't stopping there. SVC has also partnered with Partners for Growth, a debt-financing firm out of the San Francisco Bay area, in order to serve startups looking for venture debt funding when raising an equity round is not feasible. SVC is currently reviewing several debt-financing firm applications to bring this financing option to the Kingdom. "The global benchmark is that 10% to 20% of financing needs in the market be served by venture debt, so we're keen to see more applications to make this option available to our startups in the region," says Koshak.

SVC is also currently discussing the possibility of launching a pre-IPO fund, which is something SVC is looking at launching in 2023. As for future trend predictions, Koshak says he expects to see many more sector-specific funds, as well as international funds to increasingly invest in and set up in the Kingdom. Koshak noted, "The future is here. I thought it would take the market much longer to specialize and launch sector-specific funds, but we've already seen specialty funds in fintech and healthtech form in 2022. We've started to see more interest around sectors such as deeptech and gaming as well."

Ultimately, even Koshak seems surprised by the pace of growth and development in the Kingdom. "The rate of growth we've seen in the market surprised even the most optimistic of us. 12 years ago, I saw a handful of startups graduate from incubator programs, and nobody would invest in them. Now, startups have a lot of choice in the market," Koshak says. "I think the ecosystem will continue to pleasantly surprise us, and it's our job to keep ahead of the curve as best we can."

Learn more about the most prominent venture capitalists in Saudi's startup ecosystem by checking out the report, The Evolution of Saudi Arabia's Startup Ecosystem 2010-2022.

This article was originally published on Lucidity Insights, a partner of Entrepreneur Middle East in developing special reports on the Middle East and Africa's tech and entrepreneurial ecosystems.