Ukraine’s government is nationalizing the country’s largest commercial bank, PrivatBank, after it failed to fill an Hr 148 billion hole ($5.6 billion) in its books.
National Bank of Ukraine Governor Valeria Gontareva and Finance Minister Oleksandr Danylyuk announced the decision on Dec. 19, pledging to protect depositors’ money, saying that the bank’s credit portfolio is infected with insider loans — many of them unpaid — amounting to 97 percent of the loan portfolio.
Gontareva’s statement revealed what had been known to the NBU for at least a year. It also lent credence to what critics have alleged for even longer: that PrivatBank operated more like an embezzlement scheme for owner-oligarchs Ihor Kolomoisky and Gennadiy Bogolyubov than a properly functioning bank. The question now is whether they will repay these bad loans and face any legal consequences, or simply stick Ukrainian taxpayers with a bill that could exceed $6 billion (Hr 160 billion), if one takes into the account the supposed total volume of the bank’s insider loans.
Gontareva hinted at the nationalization of PrivatBank a week earlier while announcing the institution’s financial stability report on Dec. 13. “The key risk to financial stability in the short run is possible non-compliance by a few large banks with recapitalization programs, which were based on diagnostic studies,” said Gontareva.
These reports prompted withdrawals from PrivatBank. On Dec. 16, there were reports that PrivatBank had limited daily withdrawals from ATM machines.
Bu now, PrivatBank has effectively become a second Oschadbank – a mammoth business run by the state.
The amount that could have been siphoned out of the bank through insider loans may be as high as Hr 163 billion ($6.3 billion), according to NBU data. That is more than Ukraine’s defense budget and at least 5 percent of the nation’s economic output this year.
Even after nationalization, Kolomoisky will retain control of the bank’s payment systems, which appear to be owned via separate legal structures, giving him continued leverage.
Political analyst Vitaly Bala said that the threat to destroy the bank has been a main source of power for Kolomoisky. “He’s a very creative businessman,” said Bala, laughing. “But the problem has become too big for the government to ignore.”
The International Monetary Fund has made resolving the PrivatBank problem one of the conditions for Ukraine to receive the next loan installment. With upwards of $3.5 billion in payments to foreign creditors due next year, NBU officials may need IMF lending to make it through 2017. IMF lending has stalled at $7.7 billion out of a possible $17.5 billion because of Ukraine’s failures on the reform front, including in the banking sector.
Former PrivatBank owner Ihor Kolomoisky in December 2010. Kolomoisky surrendered control of the bank to the state on Dec. 18. (Ukrafoto)
Privat party
Ukraine’s banking sector is characterized by poor regulation, insider lending, and fraud. Some thought that PrivatBank’s size alone would protect it, but since its 1992 founding, it appears that its owners also fleeced deposits off its customers through insider loans.
PrivatBank has 20.5 million depositors holding $11 billion in assets, out of 45 million Ukrainians with a banking system worth $52.8 billion. That accounts for 21 percent of the sector’s assets.
The bank, however, minimized the problem and through last week said it was meeting central bank refinancing requirements and operating normally. It also said that only 17.7 percent of its credit portfolio is related-party loans — a far cry from 93 percent that the NBU calculated. Before nationalization, Dragon Capital placed the amount at between 40 and 80 percent.
According to the NBU figure, the insider lending would amount to $6.3 billion (Hr 163 billion) out of a total loan portfolio of $6.8 billion (Hr 180 billion.)
Besides a source of cash, PrivatBank was a lever of influence for Kolomoisky. It was feared that he could destroy the bank in retaliation for legal moves that interfere with his vast business interests in airlines, oil and media.
Another path to destruction involves PrivatBank’s online banking service Privat24. The division provides internet banking, a payment system that processes 40 percent of transactions in Ukraine, according to Samopomich Party lawmaker and member of the Parliamentary Committee on Banking Oleh Lavryk.
“The bank is used as a machine for receiving money,” said Oleksandr Savchenko, director of the Kyiv International Institute of Business and a former NBU official, of Kolomoisky’s intentions. “It’s a good mechanism, it can perform good operations, or it can kill.”
Privat24, one of the most advanced payments systems in Ukraine, still remains under the control of billionaire oligarch Ihor Kolomoisky, despite the Dec. 19 privatization of PrivatBank.
Flunking the test
PrivatBank’s related parties – Kolomoisky and Bogolyubov – have largely failed to repay their loans to the bank, resulting in a non-performing loan rate of up to 70 percent, the central bank said.
The NBU has known this since at least November 2015, according to Oleksandr Zavadetsky, a former head of the NBU’s related party loans monitoring department, one of the first government officials to analyze the bank’s loan portfolio for insider lending.
“The insider loans diagnostic on PrivatBank showed results that nobody expected to see,” Zavadetsky, who left the central bank in October, told the Kyiv Post. “It caused real anxiety among everyone.”
In June, the NBU struck a deal with Kolomoisky that would see him attempt to recapitalize the bank while reducing related party lending. If Kolomoisky met the requirements, he would be allowed to retain control of his bank.
Coordinated with the IMF, the plan gave PrivatBank’s owners three years to gradually fill the hole. But all banks had to attain a capital adequacy ratio of 5 percent by the end of September, meaning that Kolomoisky had to inject money into PrivatBank worth 5 percent of its credit portfolio.
“The IMF is funding the country, so they see that there is potentially a hole in the financial system that can be created in an aggravated situation by PrivatBank,” said Ihor Olekhov, head of law firm Baker & McKenzie’s financial institutions practice in Kyiv.
PrivatBank’s press service only admitted to a capitalization requirement of Hr 10 billion ($379 million).
A December report from the NBU says that the country’s top 20 banks had an average non-performing loan rate of 53 percent; even at that level, Kolomoisky would have to supply at least Hr 89 billion ($3.4 billion) of his own money to make the bank safe.
The IMF-approved repayment plan had already run into problems by the September deadline. It turned out that collateral for many of the bank’s loans came nowhere near matching the value of the loans themselves – out of a credit portfolio of Hr 180.4 billion ($6.8 billion), PrivatBank was able to verify collateral for Hr 31 billion ($1.1 billion), leaving an Hr 148 billion ($5.6 billion) gap.
Danylyuk cited that Hr 148 billion figure during the post-nationalization press conference of the maximum amount of money that Ukrainian taxpayer would have to pay.
The IMF duly noted this failure in its September memorandum, referring to “a decision for state participation in the recapitalization of a problem systemic bank.” Moreover, the fund allotted Hr 166 billion ($6.3 billion) in bond issuances for “bank recapitalization.” Subtracting the Hr 14.3 billion ($542 million) set for state-owned Oshchadbank and Ukreksimbank, that comes to Hr 135.7 billion ($5.1 billion) to cover issues relating to “systemic banks.”
At the time the report was released, the NBU ran a stress test on the top 20 banks.
PrivatBank flunked.
Head of the National Bank of Ukraine Valeriya Gontareva and Ukraine’s Finance Minister Oleksandr Danyliuk make a statement about nationalization of Privat Bank on Dec. 19, 2016 in NBU. (Julia Berezovska/Press office NB)
On the offensive
The NBU determined that PrivatBank’s shareholders either could not, or did not want to, repay the loans to recapitalize the bank. Bank CEO Oleksandr Dubilet flew to Washington, D.C., in early October to lobby against the bank’s nationalization. At the same time, lawmaker and metallurgy mogul Serhiy Taruta was at an IMF meeting in Washington distributing a pamphlet alleging corruption in the NBU.
In Kyiv, protests started to appear with more frequency around the NBU. One protest in November, over the collapsed Bank Mikhailivsky, saw thousands of pensioners close down the street on which the NBU is located.
Volodymyr Fesenko, director of the Penta political studies center, said that while PrivatBank was likely behind some of the Kyiv disturbances, “the interests of many different factions came together. Batkivshchyna, (businessman Serhiy) Taruta – a political crisis and snap elections would all be to their benefit,” Fesenko said.
What does nationalization really mean?
Gontareva said on Dec. 8 that she intended to resolve the issue of PrivatBank by the end of 2016.
In its second-ever financial stability report on Dec. 13, the NBU published figures showing that PrivatBank was Hr 89 billion ($3.4 billion) short of filling its capital needs. “Resolving this risk demands quick, tough, and coordinated actions by the NBU and the government,” reads the report.
In the week leading up to nationalization, the Ukrainian press was full of rumors. PrivatBank’s press service released a statement the day after the NBU report on Dec. 14, calling nationalization reports part of a “coordinated information attack.”
But by Dec. 18, a joint NBU and Deposit Guarantee Fund team was in Dnipro to begin the takeover.
That evening, the Cabinet of Ministers issued a decision under Article 41.1 of the law on guaranteeing deposits, saying that they had agreed to a request from the NBU to nationalize the bank. PrivatBank simultaneously entered into temporary administration as the government bought 100 percent of the shares from Kolomoisky for Hr 1.
The bank now belongs to the Ministry of Finance, allowing the government to inject up to 150 billion in capital to stabilize the institution.
To fund the capital injection, the government will issue Ukrainian treasury bonds to fund the bailout.
Ukraine’s banking sector losses have grown to at least $14.5 billion, not counting another $6 billion in probable losses from the newly nationalized PrivatBank. The losses are broken into three categories: state payments to insured depositors, uninsured deposits lost by consumers, and unpaid refinancing loans owed to the National Bank of Ukraine.
$6 billion bailout?
But won’t filling the hole in PrivatBank’s spreadsheet will mean that the Ukrainian government is paying for Kolomoisky’s insider lending?
“Unfortunately, yes,” said Savchenko, the business school director and former NBU official.
Kolomoisky has likely used the past few months to “siphon the tastiest bits out of the bank,” said Fesenko, the political analyst, meaning that Ukraine will likely inherit an empty bank.
Given that the NBU says PrivatBank has a total loan portfolio of Hr 180.4 billion ($6.8 billion), the bank’s nationalization could mean Ukraine will pay up to 20 percent of its annual national budget over time to cover the losses.
The risks inherent to nationalizing PrivatBank led to dithering from the Presidential Administration on what decision to take, said Bala, the political analyst.
Zavadetsky, the former NBU related party lending monitor, said that the NBU should have nationalized PrivatBank in December 2015 after it realized the depth of the related-party lending problem.
“What should have happened, didn’t happen,” Zavadetsky said.
NEWS ITEM: Some fear that former PrivatBank owner Ihor Kolomoisky has siphoned the bank’s money abroad prior to the Dec. 18 nationalization and handed over an empty bank.
Poroshenko’s ‘moment of truth’
NBU officials insist that they will attempt to force Kolomoisky to repay the loans. If not, they say, they will attempt to seize as much of his collateral as they can.
But political analysts doubt that the Dnipro billionaire will repay his debts.
“Kolomoisky has been more inclined to negotiate in recent months,” said Fesenko. “This situation with PrivatBank was critical, and forced him and the government into a deal. But it’s unlikely that he will pay back everything immediately.”
Fesenko added that the 1+1 TV channel, which loses money but provides political influence, could have figured into the deal to nationalize PrivatBank. As long as Kolomoisky retains 1+1, he will be able to spread his own version of the story.
Some outgoing PrivatBank officials are doing so. Both Dmytro Dubilet, the bank’s information technology director, and Oleg Gorokhovsky, a bank executive, claimed that the bank was forced into nationalization by an information attack. Aleksandr Dubinsky, a journalist on 1+1, suggested that the government does not know how to operate PrivatBank’s technological systems, setting up a narrative in which Kolomoisky pulling the plug on Privat24 looks to be the result of government incompetence.
Kolomoisky will also be able to fight nationalization through the courts/ Ukrainian law has no specific concept for bank “nationalization,” complicating the government’s position.
“The issue is not clearly addressed in current law,” said Oleksandr Kurdydyk, an attorney at DLA Piper’s Kyiv office.
One scenario that worries is that Kolomoisky could win a court case after the government has pumped billions of dollars to financially stabilize the bank.
Whether Kolomoisky is held to account for the bank’s failure, and how much of the burden average Ukrainians must shoulder, is now in the government’s hands.
“It’s a moment of truth” for the president, Savchenko said.
