A fresh study by Ernst & Young Baltic concludes that Estonia is not an attractive market for private equity investors and that Estonian businesses often aren't aware of their opportunities.
According to the nine-month study, concluded in July and commissioned by Enterprise Estonia, Estonian companies have an extremely limited supply of private equity available, in all investment ranges and company development stages.
E&Y notes recent statistics released by the European Investment Fund, which revealed that the share of private equity investments in Estonian GDP in 2011 was 0.04 percent, lower than in Latvia (0.112 percent) and Lithuania (0.087 percent). The European average was (0.326).
“The main problem here is the lack of any real competition among capital providers,” E&Y said.
The release of the study came as KredEx, a state agency that supports businesses, announced its plan to establish a state-financed venture capital fund-of-funds to bankroll startups.
E&Y said private equity is expected to become more available following the founding last year of the Baltic Investment Fund, which caters to companies seeking at least 1 million euros in investment, according to the study.
On the other hand, the new KredEx fund targets companies in the early stages of developments seeking smaller investments. The study only covered start-ups to a limited extent.
Lack of interest
The study examined companies that have growth potential, but not enough profit to independently finance it. It was found that many businesses were not willing to tap third-party private equity, an important tool for realizing potential growth, because they did not want to give up control or share their holding. Analysts attributed this lack of interest to low awareness of opportunities.
“[...] the best way to raise awareness is to promote the formation of teams of numerous local fund managers and to motivate them to educate the market. This could be facilitated, for example, by the establishment of a state-run fund-of-funds where local teams are selected as fund managers,“ the study said.
To attract investors, E&Y said the Estonian government should create more incentives for investors, such as "amplification of the rate of return and/or protection against failure“ and "ensuring a relatively high level of state participation.“ A specific recommendation was to increase the role of pension funds in the private equity market, as they currently have substantial investment restrictions, E&Y said.
The study also encouraged the Estonian government to strive for a stable economic environment, saying that capital providers had said in interviews that "weak investor protection and lenient judicial practice“ may scare away investors. It cited sudden changes in tax (waterway charges, natural resource charges) and subsidy (renewable energy subsidies) as examples.
Another recommendation was to implement measures incentivizing companies to keep their headquarters in Estonia.