The missing puzzle pieces in the Amazon acquisition of

Originally posted on LinkedIn here

Since the story first broke many months ago about a potential acquisition of Souq there has been a palpable excitement in the Dubai and MENA ecosystem. From my immediate circle of friends, I can safely say that everyone is very excited that Amazon ended being the acquirer. This being the largest exit in the region’s tech ecosystem’s history it warrants a lot more coverage than what we have seen in local and international media.

Amir Farha, of BECO Capital, wrote an article about how regional players missed out on this transaction and how they generally undervalue new ventures and overvalue their own. Many good points made in the article and in reading between its lines.

But at the end of the day, If you are a Souq employee, customer, or general participant in the tech ecosystem in the region, the choice is clear about which organization you would be rooting for.

Before going further, let’s clear up some points:

1- It is an incredible accomplishment to take a startup to a 650 million US dollar valuation and exit. In the real meaning of the world incredible (improbable, breathtaking, phenomenal, etc).

Most startups don’t survive their first year, most of the survivors don’t get to 1000 customers, most don’t grow year over year in a sector (e-commerce) that is harder than most people -even entrepreneurs in the sector- realize.

2-     The Souq/Amazon teams don’t owe the general public any information. Obviously, no confidential information but also no other details on the deal. Serene Touma (also of BECO capital) published a great article about some needed messaging to customers and that makes a ton of sense, but besides that, no other disclosure responsibility. That said, reporting on the deal has been too thin to be satisfying, so here are some thoughts based only on publicly available sources and disclosures.

3- I am a longtime customer of Souq and in the past few months have gotten, tablets, phones (also pre-ordered the S8+), books, accessories, etc. The service (purchase and delivery) has radically improved in the last few years and I rarely have any issues, a testament to the hard work and investments by the team.

Now to the puzzle pieces

The first puzzle: How did the economics of the deal work-out?

While I am not a startup financing expert by any means, and it is actually impossible to do guesses without having access to the actual capitalization table (and technically all the investment documents) we can make some quick guesstimates about the resulting economics and they are guaranteed to be simplistic and most certainly wrong since we don’t know which investors have (which type) of anti-dilution provisions or other more complicated terms, but here goes anyway:

The starting point for the investment numbers will be from Crunchbase which give us a good sense of the amounts of investments and investors at each stage. Since these numbers are based on public disclosures (generally press releases or press articles) they generally do not reflect reality 100% but approximate it. We also don’t know the split between each of the investors in every round and we don’t know how much money went into Souq before 2012. Surely at least a few millions as starting and growing an e-commerce company for 7 years is not really possible without some capital.

This is a screenshot from the Souq Crunchbase public page: Link

a. Exit amount

The deal was estimated to have closed around 650MM USD. This was not in official communication by either company so we cannot be sure. We will also have to ignore the form (cash, equity, combination, earnouts, etc) for the purpose of this exercise.

b. Total money returned to February 2016 (Series E?) investors

Last year a 275 Million round was disclosed by 5 major investors. A general rule is that late stage investors try to secure at least some minimum return on their investment by including a term in the investment documents called a ratchet. This usually means that they are guaranteed some return for example 30% for a 1.3x ratchet, etc.

Ratchets vary widely and their mechanisms could be complicated but we can potentially assume one at the low end of needed venture return (since It’s a late stage deal) and call it 1.2x. Meaning potentially 330MM USD went to the Feb16 investors.

c. Naspers total (excluding Feb16)

i. What we know: As of 2015 Naspers disclosed that it owned 47.6% of Souq and then after the 2016 round that dropped to 36.4% (dilution because of the new investors although Naspers was part of the round)

Source: Naspers 2015 and 2016 financial reports

ii. What we don’t know: Some publications referred to the 36.4% number when they discussed the sale to Amazon but this is not confirmed as Naspers itself refers to a “Disposal” in its September 2016 interim results. So we don’t know if in 2016 there was a sale of share by Naspers or, more fundamentally, what proportion of the February 2016 round was Naspers’. So for the sake of oversimplification let’s take the 36.4% number and reduce it by 6.4% to estimate Naspers ownership outside of the Feb2016 round. That means that 195MM USD went to Naspers.

d. Estimated return for the early stage investors

The estimated remaining amount is 125MM USD for all previous investors including the listed October 2012 round of 35MM by Jabbar, MVI, and Tiger as well as all previous investments (seeds 2005-2011). So that would translate to a 3-4x multiple of those investments over a 6 to 12 year period.

The other puzzle pieces

The amount of guesstimating in these calculations might be so that the numbers are way off. If the numbers are somewhat accurate, however, it is a fine return (+80 million dollars for early investors!) But those early investors (as a group) don’t seem to have received the types of returns venture capital investors look for (10x, 50x, 100x) especially from their star investments. (One of the investors could have invested a small amount early and gotten a huge multiple but we are taking that group as a bundle)

Why is that the case? Here are some attempts at questions and answers:

Q1. What can we make out of these return numbers?

A1. We must remember that e-commerce is incredibly capital intensive with investments in inventory, logistics (fulfillment warehouses even if you are not holding your own inventory), delivery, people, marketing, etc. Souq being a pioneer had to do a lot from scratch, develop the market, develop awareness, pivot at times, develop payment solutions, etc. So yes, considering many e-commerce sites implode this was a good return. But the challenges are part of the reasons local VCs are very reluctant to invest in the sector especially when it involved holding inventory (the great vacuum of capital).

But at the end of the day, many of the early investors (Fadi Ghandour, Samih Toukan) have already made fortunes in other ventures, and a positive return only adds to it. The Souq senior leadership also get a significant financial windfall as well as joining one of the top tech companies in the world.

Q2. Would Souq have been able to wait a little longer to IPO or sell at a higher valuation?

A2. Who knows. But the variables that probably played in the decision include the fact that Souq is a 12-year-old company and at some point, VCs have to exit an investment to be able to return money to their own investors, the limited partners.

Additionally, an IPO must have been a bit too complicated from a regulatory perspective and betting on the appetite of retail investors in foreign financial markets for a startup in the region a bit too risky.

Finally, Souq might have been continuing to burn money as it grows and the questions become: should we keep fundraising or join a ginormous company that can invest for the long-term lead by a CEO who’s known to do exactly that.

Q3. You know what this one is.

A3. No idea what that was.

Q4. What’s next?

A4. Hopefully, more money re-invested in the ecosystem. More Souq graduates starting new companies. A big investment by Amazon to increase product range (Keeping my ShopandShip account until then), compete on pricing (something Bezos is known to do and us consumers love) and scale up tech talent acquisition and investment programs as region badly needs it. On top of this developing infrastructure, room for more niche e-commerce players will emerge as well.

We are also going to see another exit in MENA In the next 12-18 months and hopefully these will become so frequent we don’t have to wait for years between each!

There are many more questions, but this article is already a bit long so will leave it at this.

Final notes

I wrote the article mostly to satisfy my own curiosity about the acquisition and because I felt there was a big gap in terms of reporting about the deal itself. I do hope that it was informative for people interested in startups and startup finance (although actual numbers are most probably incorrect so please do not quote), I tried to add links to informative articles as well fo this group.

I also hope that it is crystal clear that digging a little bit deeper is not meant to take away from this incredible milestone for the ecosystem. The entrepreneurs and investors involved (Ronaldo, Samih, Fadi, and others) have always been inspirations to all of us aspiring entrepreneurs and angel investors and this exit cements that.

UPDATE: Since I posted this article several contacts have mentioned that these calculations aren’t accurate. Of course they are not! They are only based on publicly available information. The goal of the article was to help people understand how startup financing over multiple stages works and to use a relevant case study for the local  ecosystem to do it. Would love to see the real calculations published some day.
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