Why Estonia’s technology companies are worth twice its national budget

Companies and investors are drawn to Estonia’s rich technology ecosystem. The Baltic state’s success is founded on long-term, ambitious strategies, and M&A activity is increasing. However, investment success depends on understanding the opportunities and challenges found across the world’s premier tech hubs, including Estonia.

Saying that Estonia’s technology industry punches above its weight would be an understatement. In fact, its 1.3 million people hold several start-up world and regional records.

Today, Estonia’s 25 most valuable technology companies are worth a combined €21 billion. For comparison, the national budget for 2021 was €13 billion. With a total of 1292 Estonian technology start-ups and companies, their combined value is likely beyond twice the size of the national budget.

2021 leading countries measured by number of start-ups per one million inhabitants. Data: Dealroom. Graph: BDO Global.

Tech unicorns (valued at more than one billion US dollars) abound, including Skype, Playtech, TransferWise, Bolt, Pipedrive, and ID.me, with more on the way. Technology M&A involving Estonian targets is also on the rise, with 2021 already surpassing 2020.

Estonia’s success begs questions like what are the reasons behind the country’s success? Can they be replicated? And are there potential challenges companies and investors must be aware of when looking at Estonia?

The long digital haul

Estonians are among the world’s foremost digital natives. More than 99% of financial transactions are digital – partially thanks to the country’s advanced fintech ecosystem and Electronic ID-systems. Said IDs are used throughout all aspects of society, including when voting, which happens electronically.

Thanks to the digital-first approach and streamlined procedures, setting up a company can be completed in as little as 30 minutes.

This has not always been the case but stems from a concerted long-term effort. Starting around the turn of the millennium, Estonia has continuously launched new initiatives to boost technology adoption throughout society. Simultaneously, it has retained and attracted technology talent through issuing digital nomad visas, competitive tax rates, flexible financing options, and comprehensive support systems for start-ups.

One of the main benefits is that the country’s population is used to thinking digital-first. Simultaneously, the ease of starting a company and low financial entry bar encourages an already existing strong entrepreneurial spirit. Also, success is celebrated far and wide. It is far from unusual to see a start-up’s results celebrated on the evening news.

Framework for success

Estonia’s technology ecosystem is attracting increased investor attention and leads Europe in venture capital (VC) investment per capita.

Data: Sifted. Graph: BDO Global.

The impressive start-up generation, funding figures and rise of unicorns is based on a broad framework consisting of four interlinked areas:

  • Ecosystem: Estonia has dedicated funds to help build and bring together local start-up communities. A digital and data-driven approach supports development strategies and decision-making, and the country’s educational institutions are included as a pivotal component for generating new start-ups and tech ecosystems.
  • People: Encouraging talent diversity and bringing people together through start-up events to create strong communities and knowledge sharing are central strategies. Furthermore, Estonia seeks to attract and retain talent through initiatives like digital nomad visas and regulatory setups such as attractive tax rates.
  • Capital: The country has a long tradition of actively attracting investors and connecting them with start-ups and companies. Simultaneously, founders have an easier time raising funds, as they are not tasked with raising the entire amount needed ahead of founding an enterprise.
  • Regulations: Estonia has developed regulatory frameworks to ease establishing and running a start-up, investing in technology enterprises, or raising funding. This includes the country’s extensive digital ID system. Another aspect is the tax setup. For example, an annual business tax only applies to dividends, easing the financial burden on early-stage start-ups.

As detailed in BDO’s International Tech Hubs series, similar initiatives and focus areas define many of the world’s most successful technology hubs.

M&A on the rise

Technology ecosystems tend to grow over time as entrepreneurs and business leaders gain experience taking their endeavours to new heights. In other words, exit sizes and values increase over time. Recent IPOs and M&A activity in Estonia underscore this trend.

The growth of unicorns and Wise’s direct listing worth US$11 billion on the London Stock Exchange in July 2021 is a prime example of this. So too is the increased interest from investors and companies looking to acquire Estonian technology companies.

M&A data for mid-market deals shows an upward trend for acquisitions:

Data: MergerMarket. Graph: BDO Global.

Most M&A deals involving Estonian targets are cross-border deals. Acquirers include institutional investors, private equity firms, VCs, and overseas companies.

M&A activity is expected to increase as the technology ecosystem evolves.

One of the drivers is employees of existing unicorns going on to establish successful start-ups. For example, former Pipedrive employees have founded companies such as Klaus, Lift99 and Outfunnel, while former Skype employees have founded companies like Bolt, Teleport – and the now US$11 billion company Wise.

Growing pains and cultural consideration

Estonia’s success is not without its issues. A small population means that companies find themselves competing for a limited, highly sought-after talent pool. As a result, salaries, which are still lower than in many other European tech hubs, are rising rapidly, and near-shoring is increasing.

Companies or investors targeting Estonia should also be aware of – and ready to adapt to - local conditions and culture. For example, Estonians rightfully pride themselves on being hardworking, innovative, and diligent. However, they do not take kindly to heavy-handed, hierarchal management approaches.

One famous example involves an American manager appointed to head an Estonian company post-acquisition. For unknown reasons, said manager decided to stamp his authority on the company by dismissing two managers for minutia. Within a few weeks, almost the entire workforce had quit and found employment elsewhere.

Another factor that should be taken into consideration is the small home market. Innovative start-ups risk being outmuscled by multinational players before they gain traction – especially if underfunded or ill-prepared for international growth ventures. One strategy to combat this is acquisitions or mergers to strengthen market positions. The merger between eCommerce companies Hobby Hall and UAB Pigu illustrates this trend.

Taxes among core acquisition considerations

Companies and investors considering Estonian targets will need an in-depth understanding of the country’s rules and regulations, including for tax and audits. These are areas where Estonia is developing rapidly. Estonia is a member of the EU, so some legislation may be familiar, but the devil is in the detail.

As in other countries, due diligence needs to include in-depth knowledge of local rules and regulations – and what likely changes are underway. Other focus areas include transfer pricing, market developments, intellectual property rights, data protection, and optimal deal structuring.

For both M&A and potentially adopting the approaches that have made Estonia the technology success story it is today, there is much to learn from past experiences.

Whether your goal is acquisitions or encouraging technology industry growth on a regional or even national level, a keen eye on how to adapt lessons learned to your unique situation is essential.



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