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Perspective

Bahjat El-Darwiche Ramez Shehadi Louay Abou Chanab Tarek El Zein

Stimulating Innovation Building the Digital Advantage for MENA Countries

Contact Information Beirut Bahjat El-Darwiche Partner +961-1-985-655 bahjat.eldarwiche@booz.com Ramez Shehadi Partner +961-1-985-655 ramez.shehadi@booz.com Louay Abou Chanab Principal +961-1-985-655 louay.abouchanab@booz.com Tarek El Zein Associate +961-1-985-655 tarek.elzein@booz.com

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EXECUTIVE SUMMARY

Countries in the Middle East and North Africa (MENA) region have a substantial opportunity to drive economic growth by developing a vibrant and innovative technology sector. However, these countries have not yet fully capitalized on this opportunity. They enjoy the gains in efficiency that come from using products and services within the information and communications technology (ICT) sector, yet to date they remain consumers and net importers of technology. Over time, economies with a robust ICT sector enjoy a substantial competitive advantagethey become more innovative across all sectors of their economies, and thus better prepared to face the challenges of the 21st century. To strengthen their ICT sectors and foster innovation, governments in the MENA region must act on five core elements: identifying key focus areas, establishing innovation-friendly policies and regulations, making funding more widely available, improving ICT infrastructure, and developing the local talent pool. These elements are interconnected and will require a holistic approach, implemented in conjunction with private-sector ICT players. The end result will be a stronger innovation environment, not only for the ICT sector but for the national economy.

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KEY HIGHLIGHTS Innovation within the ICT sector can lead to innovation in other sectors of a national economy and thus make it more competitive. Countries of the MENA region have an opportunity to develop a strong innovation culture for their ICT sectors by fostering technology startups, creating business-friendly policies and regulations in such areas as patent filings, and devoting a larger percentage of their GDP to R&D. Some focus areas with strong local potential are Arabic and Islamic services and applications, IT services and smart devices for the energy and utilities sectors, e-education and e-health systems, and devices and systems for urban and infrastructure management.

CREATING DIGITAL ECONOMIES

Around the world, the information and communications technology (ICT) sector has transformed societies and economies over the past decade, via a steady stream of innovative new products and technologies. Product cycles in the sector are now so short that ICT companies must innovate simply to compete, and the intense pace of this innovation has fueled tremendous growth not only for the companies within the ICT sector but for many other industries as well (see Exhibit 1). New information technologies have changed the way we interact, added intelligence to core infrastructures such as transportation and utilities, and spurred widespread innovation across national economies. As a result, governments now recognize that innovation in ICT products and services can have a multiplier effect, driving productivity growth and economic performance across the country as a whole. The European Commission notes innovation in ICT has contributed to 40 percent of the continents productivity gains. This is why governments of both developed and emerging markets have made ICT innovation a priority on their national agendas. Recent initia-

tives include the European Unions Digital Agenda, Malaysias Strategic ICT Roadmap, Germanys ICT 2020 Research for Innovation, and the U.S.s Strategy for American Innovation. These programs aim to establish national ecosystems capable of promoting ICT innovation at all levels, through a holistic and well-coordinated agenda of government policies. To understand how best to foster ICT innovation in the Middle East and North Africa (MENA) region, it is important to understand the roots of such innovation. One primary source of innovation is the research and development function of scientific institutions and large corporations, such as telecom operators (Orange), hardware manufacturers (Apple), infrastructure players (Ericsson), or service players (Google). These companies identify the market potential of ideas generated through R&D and seek to commercialize them. The second source of ICT innovation is entrepreneurs who develop new business models or products from the ground up, relying on the Internet, application stores, the telecom sector, or IT devices to reach markets. The two sources are complementary, and although in rare cases entrepreneurial initiatives become mainstream products (such as Facebook), more typically, large corporations will attract smaller initiatives that orbit around them and tap into their ecosystem. An example of this phenomenon is the number of applications developed for Apples iPhone and Googles Android mobile platform.

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Currently, the countries of the MENA region have a significant opportunity to improve R&D and entrepreneurship in the ICT sector. In 2007, the Arab world spent an average of 0.3 percent of its total gross domestic product (GDP) on overall R&D, compared with 2.3 percent for countries within the Organisation for Economic Co-operation and Development (OECD). In the last 13 years, the MENA region has filed a total of 3,224 patents, compared with some 1.7 million patents for Japan alone. In terms of entrepreneurship, the region also lags behind global peers. According to recent World Bank data measuring the number of new firms created per 1,000 people, the five MENA countries included in the survey (Algeria, Jordan, Oman, Morocco, and Egypt) averaged just

0.9 startups, significantly behind countries such as France (3.08), Finland (3.37), Singapore (7.4), and the United Kingdom (8.05). As a result, the MENA region generates roughly 2 percent of its GDP through ICT revenues, compared with 15 percent for truly innovative economies such as that of South Korea. The lack of overall innovation can have a significant negative impact on the regions long-term economic competitiveness. Currently, the MENA region is a net importer of information and communications technologycompanies in the region purchase ICT products and services that enhance efficiency, but the national economies do not enjoy the greater gains that come from a vibrant local ICT sector.

However, there are some signs of progress. Jordan, for example, has become a regional ICT innovation powerhouse in a relatively short time, mainly owing to sound government policies. Among other initiatives, Jordan has appointed a chief technology officer for the country and created a free trade zone specifically for the U.S. market. The countrys ICT sector now includes hardware, software, consulting, programming, and installation; it employs more than 11,000 people and can tap into a steady inflow of more than 6,000 IT graduates per year. This growth has attracted the attention of global ICT players. Intel Capital, for example, has invested in two ICT startups in the countrya Web-community platform called Jeeran and ShooFeeTV, which aggregates Arab satellite TV listings and entertainment content.

Exhibit 1 ICT Enables Innovation in All Industry Sectors

PERCENTAGE OF INNOVATION ACTIVITY ENABLED BY ICT, BY INDUSTRY (20062009) Product and Service Innovation Energy Supply Telecommunications Transport Services Retail Hospital Activities ICT Manufacturing Tourism Construction Consumer Electronics Steel and Iron Furniture Glass, Cement, Ceramics 54 53 53 49 48 44 42 64 70 76 89 86 Energy Supply Telecommunications Transport Services Retail Hospital Activities ICT Manufacturing Tourism Construction Consumer Electronics Steel and Iron Furniture Glass, Cement, Ceramics 81 80 76 75 75 70 70 67 64 59 Process Innovation 97 92

Note: The methodology and metrics used to assess both innovation and ICT contribution were defined by the e-Business W@tch study ICT and e-Business for an Innovative and Sustainable Economy. Source: e-Business W@tch, 2010

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Although Jordan represents an ICT success in the region thus far, like all other countries in the region, it can do more. To that end, national governments in the MENA region must take a holistic approach to addressing five key issues, with the long-term goal of establishing an ICT innovation ecosystem (see Exhibit 2). These five components are interconnected, and government is the enabler and supporter of all five. If implemented holistically, these elements can lead not only to a stronger and more innovative local ICT sector, but also to a more innovative regional economy across all sectors. ICT Key Focus Areas ICT is a broad and growing sector, and no country can excel in all the sectors many clusters. Focus and selection are thus critical. For

example, Malaysias Strategic ICT Roadmap has identified three focus areaswireless sensor networks, predictive analytics, and 3-D Internet technologiesthat could advance the country economically and technologically over the next 10 years. To identify the most relevant focus areas, regional governments must understand both where demand exists and how they can use their strengths to fulfill it. First, factors such as demographics and the socioeconomic agenda can identify specific market demands within each country. For the MENA region, key focus areas with strong local potential include Arabic and Islamic services and applications, IT services and smart devices for the energy and utilities sectors, e-education and e-health systems that support the massive buildup of related

sectors in the Gulf Cooperation Council (GCC), and devices and systems for urban and infrastructure management to complement the development of several multibilliondollar economic cities. Simultaneously, regional governments must understand where their capabilities lieassessing current economic strengths within their national economy to determine whether they have a sufficient manufacturing base or other industrial entities needed to support the ICT key focus areas. After weighing both factors, governments should have a finite number of promising subsectors for ICT innovation that can be assessed on the basis of their overall return potential. Once they decide on a specific set of key focus areas,

Exhibit 2 The Booz & Company Framework for an ICT Innovation Ecosystem Includes Five Core Components

Local ICT Talent Imported ICT Talent Basic Infrastructure Specialized Infrastructure Public Funding Private Funding

Talent Pool Infrastructure Funding Policies & Regulations ICT Key Focus Areas

Legal Environment Regulations ICT Policies ICT Industry Associations National ICT Positioning

Fastest

Slowest

Development Time

Source: Booz & Company

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governments must prioritize these areas within their national innovation policy agenda, ensuring that all remaining components are geared toward going after and developing the identified opportunities. Again, selection and focus are key. Only by identifying a small number of promising subsectors that align with current market demands and economic strengths, and then applying a relentless focus on these subsectors, will MENA national governments be able to compete against global ICT powerhouses. Significantly, this means excluding other market opportunities that may appear tempting but that ultimately distract from the countrys main ICT capabilities. Policies and Regulations Even though governments in the region have taken dramatic steps recently to establish business-friendly policies and reduce startup costs for companies, there is still more work to be done in developing efficient policies and regulations pertaining to intellectual property and copyright protection. These regulations are a factor in virtually all industries throughout the region, but they are especially critical in ICT, in which ideas drive success. Companies will reap little reward for developing an innovative new software suite if they cant protect that software in the market. Although some countries have intellectual property and

copyright laws in place, they are not consistently enforced. As a result, the MENA region experienced losses of more than $1.4 billion in 2009 due to IT software piracy, according to the Business Software Alliance. Furthermore, governments must enhance dispute resolution laws and enforce contracts. The current lack of advanced bankruptcy laws in most MENA countries leads to significant uncertainty regarding early-stage financinginvestors are understandably hesitant to back young companies if they arent protected in some way should the company fail. Finally, foreign business ownership laws must be relaxed (not only within business parks, which often have more flexible ownership laws, but nationwide), and labor laws should become more flexible. These legislative tools are critical to driving innovation, as they establish a clear and transparent regulatory framework and protect investors. In devising these policies, governments should solicit the input of all stakeholders in the innovation ecosystempublic, private, and educationalto ensure collaboration after the relevant laws are put in place. Finally, governments need to determine the best way to interact with key members of the ICT innovation community. They should work to develop ICT business associations and trade groups, which can spread industry

knowledge quickly and lead to a critical core group of ICT executives capable of collaborating to expand the sector. These trade groups must emphasize exports as a key target of the local ICT innovation ecosystem. Funding Without funding, neither innovators nor entrepreneurs would be able to develop new products or commercialize their ideas. This is why the E.U.s Digital Agenda calls for doubling Europes R&D investment in ICT by 2020, from 5.5 billion to 11 billion (US$8 billion to $16 billion) for public spending, while promoting an equivalent increase in private spending, from 35 billion to 70 billion ($51 billion to $102 billion). Conversely, the MENA region has shied away from investing in innovation or entrepreneurship ventures to date, mainly because of the tradition of investing in lower-risk opportunities such as real estate or the stock market, where exits are easier. According to data from the Global Entrepreneurship Monitor 2009 MENA report, nearly 80 percent of entrepreneurs in seven MENA countries are funded by family members, and only approximately 10 percent tap into government programs. In that context, MENA governments must significantly increase their R&D spending and provide financing for entrepreneurs in key focus areas by

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setting up national funds for innovators and entrepreneurs. As an example, Jordans King Abdullah II Fund for Development (KAFD) has established Oasis 500, an ICT seed capital fund for innovative new startups. By 2015, the fund will provide initial capital of $15,000 to $70,000 each to 500 startups focused on media, online content, and applications. Another example is the Qatar Foundations effort to provide funds worth 2.8 percent of its GDP to finance four distinct areas, one of which is ICT research in the fields of digital society, Arabic Internet content, bioinformatics, and computational science. However, such government funds are not enoughthey should be complemented by broader and more efficient funding on the part of the private sector. The regions network of venture capital (VC) firms and angel investors is less mature than networks elsewhere. This network could be further developed by clarifying the terms for how venture and angel investments are structured, including cross-border investment laws and bankruptcy laws. VCs and angel investors are a critical component of any innovation ecosystem because they provide entrepreneurs access to smart capital funding along with access to a pool of

experts who can direct the growth of promising young companies. A 2010 survey by the U.S. National Venture Capital Association, including more than 500 VCs in nine countries, identified the most important factors for creating a favorable environment for venture capital. Among them were an improving entrepreneurial environment, defined as access to a wide range of investment opportunities (59 percent), and a strong R&D climate supported by the government (49 percent). In addition, respondents identified the factors that created a negative environment for venture capital: unfavorable tax policies (56 percent) and an unstable regulatory environment (48 percent). All these factors can be controlled by governments, and MENA leaders must make an effort to build the elements that attract investors while eliminating those that are deterrents. In addition to improving the funding climate for small companies and entrepreneurs, MENA governments should look to enhance innovation financing through large ICT companies. Corporations such as Orange, Deutsche Telekom, and Telefnica all have internal innovation programs, along with

funds to invest in external startups and thus boost their own services. In markets such as Europe and the U.S., governments provide such companies with incentives and subsidies to run these programs. However, in the MENA region, no similar innovation programs exist for large ICT players, a gap that limits entrepreneurs access to markets and networks. In parts of the MENA region, particularly in the GCC, taxes are negligible and tax cuts are therefore not available as an incentive. In that context, governments must be more creative in devising ways to drive innovation in these companies, or launch publicprivate partnerships that can accomplish the same thing. Infrastructure Governments should make sure that modern infrastructure is available to support innovation in the key focus areas. At a minimum, this includes the basic elements required to ensure competitiveness in any business sector: reliable and affordable energy and utilities; an extensive, highquality transportation network; and affordable office space, for example. Beyond that, policymakers must ensure that infrastructure is in place for more specialized ICT needs,

It is critical that the regions technology parks serve to foster a more local ICT innovation ecosystem.

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including a robust telecom and broadband network. If next-generation ICT applications are to thrive and support economies, they must run on next-generation broadband networks that enable ultrafast connections at affordable prices. Governments worldwide have invested billions of dollars in order to deploy the broadband networks that will act as the backbone of data-hungry economies. In several towns in the U.S., Google is planning to set up a network capable of reaching 1 gigabit per second, to test how daily lives would be affected by such high-speed access, and then create innovative applications to meet the new demand. MENA governments should also collaborate with the private sector to develop specialized ICT clusters such as technology parks, along with other ICT-specific infrastructure (R&D labs, manufacturing plants, specialized incubators, etc.). Many nations in the region have already set up highly successful ICT technology parks, such as Dubai Internet City, Knowledge Oasis Muscat in Oman, and Egypts Smart Village. These parks have traditionally focused on attracting global ICT enterprises to set up commercial branches that concentrate on the latter stages of the ICT value chain, including sales, implementation, and operations, with limited investment in innovation

or R&D. Moving forward, it is critical that the regions technology parks serve to foster a more local ICT innovation ecosystem. Governments should require that tenants participate in early-stage research, with the goal of generating marketable ideas that contribute to a homegrown ICT sector. Qatar Science & Technology Park and Dubai TechnoPark are two recent examples of parks that have taken this stepboth now require that tenants provide opportunities for local entrepreneurs and invest in earlier stages of the ICT value chain. In addition, these parks are now setting up their own incubators as well as seed capital funds to help develop an innovative ICT sector. Talent Pool Building the right talent pool is the most crucial step for any national ICT innovation program, and the one that requires the longest time frame. In the short term, MENA countriesspecifically those in the GCChave little choice but to rely on imported talent. However, they can derive the greatest benefit from this temporary workforce by ensuring that some knowledge transfer takes place. The regions nationals should gain critical skills and information from expatriates, reducing the demand for such talent in the future.

In the long term, nations must guarantee a consistent supply of local talent if they are to build a sustainable, long-term comparative advantage. In the World Economic Forums Global Competitiveness Report 20102011, MENA countries scored poorly when it came to the availability of scientists and engineers. Although there are some exceptions, such as Jordan, Lebanon, and Egypt, many nations in the region need to educate and train more engineers. Policymakers in the MENA region must establish subsidized and specialized education programs to build the necessary talent pool in their ICT key focus areas. They can achieve this by collaborating with universities to develop required curricula, setting up specialized ICT institutions, and developing ICT centers of excellence. The curricula should include entrepreneurship courses and be closely intertwined with either an ICT business incubator or local ICT companies to ensure that any new ideas can be tested and commercialized quickly. In addition, knowledge can be quickly spread via e-learning portals where nationals can access focused curricula efficiently. One example is Qatars National e-Learning Portal, which offers courses for individuals in subjects including software development, server technologies, and website design.

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CONCLUSION

A holistic approach in which governments address all five innovation ecosystem componentsidentifying key focus areas in ICT, establishing innovation-friendly policies and regulations, improving funding, upgrading infrastructure, and developing local talentwill help countries develop a dynamic innovation environment. As a result, MENA countries will be better equipped to generate a steady stream of innovative ICT products and services. More important, over time this innovation environment will

lead to a greater goal: a sustainable long-term economic advantage over other countries. Policymakers have a range of tools at their disposal with which they can achieve these goals, including social networking, which can draw together the disparate elements of the ICT innovation community. For some MENA nations, the path to ICT innovation will be faster and smoother than for others. However, the end result will justify the journey.

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About the Authors Bahjat El-Darwiche is a partner with Booz & Company in Beirut. He specializes in communications, media, and technology and has led engagements in the areas of telecom-sector liberalization and growth strategy development, policymaking and regulatory management, business development and strategic investments, corporate and business planning, and privatization and restructuring. Ramez Shehadi is a partner with Booz & Company in Beirut. He leads the information technology practice in the Middle East. He specializes in e-government, e-business, and IT-enabled transformation, helping private corporations and government organizations leverage technology, achieve operational efficiencies, and improve governance. Louay Abou Chanab is a principal with Booz & Company in Beirut. He specializes in telecom-sector policymaking, regulatory management, sector development, telecom wholesale strategies, and infrastructure business models for the communications, media, and technology industries. Tarek El Zein is an associate with Booz & Company in Beirut. He specializes in growth strategies, corporate and business planning, business development, strategies for the digitization of economies and innovation, and development strategies for the communications, media, and technology industries.

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