UKRAINE: PRIVATIZATION UNLIKELY TO HELP CLOSE BUDGET GAP

UNCLAS SECTION 01 OF 02 KYIV 000785 SIPDIS SENSITIVE DEPT FOR EUR/UMB, EUR/NCE, EUR/ERA, EB/CIP, EEB/CIP/BA FOR WWITTEMAN USDOC FOR 4231/ITA/OEENIS/NISD/CLUCYK E.O.: 12958: N/A TAGS: ECON EFIN ECPS BEXP EINT UP SUBJECT: UKRAINE: PRIVATIZATION UNLIKELY TO HELP CLOSE BUDGET GAP REF: 08 KYIV 447 ¶1. (SBU) Summary: Ukraine's 2009 budget foresees $1.1 billion of budget revenues this year, but the GOU is unlikely to earn anything near that amount from privatization of state-owned enterprises. The IMF, in its most recent review of its Stand-By Agreement, now estimates that Ukraine will generate about $390 million from privatization. The unfavorable market environment will make the sale of even well-prepared state companies difficult. Two flagship state companies - fixed-line telecommunications giant Ukrtelekom and chemical giant Odesa Portside Plant (OPP) -- lead the GOU's privatization list. While the State Property Fund (SPF) has made progress in preparing OPP for sale, Ukrtelekom looks to be less ready, and leading GOU and company officials continue to announce unrealistic timelines for the company's privatization. In addition, the ongoing political squabbling between PM Tymoshenko and President Yushchenko over the legal basis for privatization, and over leadership of the SPF, continues to lame the privatization agency. End summary. Privatization Revenue To Fall Short of GOU Target -------------- -------------- ¶2. (SBU) The Ministry of Finance foresees $1.1 billion of budget revenues this year, but the GOU is unlikely to earn anything near that amount as it attempts to finance a ballooning deficit, which the IMF now expects to be about $4 billion (excluding costs of bank recapitalization.) The IMF now estimates privatization revenues to be about $390 million, or 0.3 percent of GDP. The ability to generate significant revenue from privatization will depend on whether Ukraine will be able to ensure the sale of two flagship companies still in state ownership -- Ukrtelekom and the Odessa Portside Plant -- which in turn will be contingent on reaching a political consensus on privatizations and the ability to find respective buyers in the current economic climate. ¶3. (SBU) Ukraine has had a dismal record of privatization in recent years. In 2008, privatization revenues were only $95 million against planned revenues of $1.7 billion. Privatization has been effectively blocked since the $4.8 billion sale of Ukraine's largest steel mill, Krivorizhstal, in 2005. The political rivalry between �00A;President Yushchenko and Prime Minister has hit privatization hard. The two have waged an ongoing battle over the leadership of the State Property Fund (SPF) practically from the moment that Tymoshenko assumed office in late 2007 (reftel),a dispute that shows no signs of abating. On May 6, Yushchenko suspended a recent CabMin resolution naming a new SPF deputy head and announced intentions to challenge in the Constitutional Court. ¶4. (SBU) The Prime Minister and President disagree on the legal basis for privatization as well. Last December Yushchenko issued a decree instructing the GOU to suspend the privatization of strategic assets until the adoption of laws on both the SPF and the privatization program itself. In February the law on the privatization program failed in the second reading. The Rada later did pass a law on the SPF, but Yushchenko vetoed it, arguing that it included some contradictory provisions. ¶5. (SBU) However, as the situation with the 2009 budget gets worse, there appears to be a change in the view of the President with regard to at least the sale of Ukrtelekom. On March 25, First Deputy Head of the Presidential Secretariat Oleksandr Shlapak announced that the President would support the privatization of Ukrtelekom provided that the Cabmin coordinates the tender conditions with the President. Shlapak also emphasized the importance of adhering to transparency requirements during the privatization. Ukrtelekom Revenue Later This Year? -------------- ¶6. (SBU) Even if the political will emerges to move forward with Ukrtelekom's sale, it is not clear whether the privatization can be conducted quickly enough to generate meaningful funding for the 2009 budget deficit. Ukraine has tried to sell the land-line monopoly since 1997, and has routinely announced unrealistic timelines. Earlier this year, for example, Transportation Minister Yosyp Vinskiy expected that a tender would be conducted in the first half of this year. Media reports have quoted officials as saying that the tender could take place in October. However, by all accounts, little progress has been made to prepare the company for privatization. The need to restructure Ukrtelekom, to separate it from the government's communication service, and the requirement to conduct an international audit of the company will all influence the timeline. Ukrtelekom is Ukraine's largest fixed-line operator and KYIV 00000785 002 OF 002 has 70 percent market share, or 9.7 million subscribers. It also is a leader in providing internet broadband connections, serving more than 10 million households. However, given the tough competition in the sector Ukrtelekom risks loosing large part of its market share, justifying the need for fast privatization of the plant. Companies Purportedly Voice Interest in Ukrtelekom -------------- -------------- ¶7. (SBU) On February 11 the GOU passed a resolution aimed at selling a 67.8 percent stake in Ukrtelekom this year. On March 18, acting head of the SPF Dmytro Parfenenko announced that 10 companies were interested in participating in the privatization. He mentioned Deutsche Telekom and its Hungarian subsidiary Magyar Telekom, Turkish Turkcell, Russian RosTelecom as well as Systema Group (owner of MTS and Komstar Ukraine). Some commercial and investment banks, including Bank of New York, UBS, Nomura, Russian Alfa Capital, Austrian Raiffeisenbank, Credit Suisse, and Merrill Lynch have reportedly expressed interest. To our knowledge, however, none of the companies mentioned by the GOU have independently and openly expressed interest. Some of the conditions announced in tender plans in 2008 were viewed as a deterrent for investors. A ban on cutting Ukrtelekom's bloated workforce, for example, was seen as the primary obstacle to modernizing the company. Ukrtelekom's Price Probably Lower This Year -------------- ¶8. (SBU) Estimate of Ukrtelekom's worth vary widely. Transportation Minister Vinskiy said the GOU could fetch $3.25 billion, while the SPF estimates that Ukrtelekom is worth only $970 million. The company's market capitalization is about $630 million (seven percent owned by management and employees is listed on Ukraine's stock market) reflecting the recent abrupt decline in share prices, as last year's capitalization was $2.35 billion. Concorde Capital analyst Oleksandr Parashchiy estimated the starting price to be $936 million, and thought the company could eventually be sold for $1 to $1.9 billion. Roman Zhukovskiy, a social and economic policy advisor to the President, estimated that the GOU will most likely get about $1 billion as compared with $3 billion last year if it had sold the Ukrtelekom stake last year. Odessa Portside Plant Could be Privatized More Quickly -------------- -------------- ¶9. (SBU) The privatization of the Odessa Portside Plant (OPP), Ukraine's largest ammonium producer, could be swifter, since the company underwent significant privatization preparations in 2008. Commentators put the price for OPP at about $1 billion, far lower than the price expected for 2008. Higher prices for Russian gas made the plant less attractive, as gas accounts for about 45 percent of the plant's costs. Media reports have said that companies that are interested in the privatization may include those that have access to their own sources of gas, such as Russian Sibur, Eurochim, or Ukrainian company IBE Trade, which is the owner of Stirol plant. Local press have speculated that Dmitriy Firtash, owner of other chemical plants in Ukraine, such as RivneAzot, no longer has access to cheap gas and would not be interested in OPP. ¶10. (SBU) Other companies scheduled for privatization include stakes in five oblenergos and controlling stakes in plants like Makeyev coking chemistry plant and Horlovka machine-building plant. However, the SPF had to recently cancel the tender for a 25 percent stake in one oblenergo due to a lack of bidders. The plan also includes privatization of 22.39 percent of aviation company Aerosvit. The interest in these privatizations is likely to be limited to existing shareholders of the companies and the cumulative value of the packages is not expected to exceed $500 million. ¶11. (SBU) Comment: The sale of Ukrtelekom or the Odessa Portside Plant will require political consensus and at least medium term planning. The latter is not common in Ukraine's political world, with its short horizons, and it remains to be seen if the former will be possible as the presidential election campaign intensifies later this year. In any case it appears increasingly unlikely that privatization will contribute more that a modicum to the financing of Ukraine's budget deficit this year. End comment. TAYLOR