Ukraine’s biggest investor, the European Bank for Reconstruction and Development, has closed the books on a spectacular 2019. The numbers tell the story: 1.1 billion euros in investment, mostly in the private sector; 51 completed transactions; and a non-performing loan portfolio that shrank from 12.4 to 8.4 percent.
What could go wrong in 2020?
Well, Matteo Patrone, the EBRD’s managing director for Eastern Europe and the Caucasus, is watching two fates closely in 2020: That of billionaire oligarch Ihor Kolomoisky and the International Monetary Fund lending program to Ukraine.
They are linked.
Kolomoisky is the poster child for Ukraine’s epic $20 billion bank fraud of the last decade. The state took away his PrivatBank after its financial collapse, allegedly caused by $5.5 billion in bank fraud. The former owner faces lawsuits seeking to recover the money but faces no criminal charges.
The continuation of the IMF program is related to Kolomoisky’s fate: The lender wants to see concrete action to recover the multibillion-dollar banking losses before lending the nation more billions of dollars. In this goal, the positions of two of Ukraine’s top backers – IMF and EBRD – are aligned.
The fact that the EBRD is the largest investor in Ukraine only underscores the nation’s poor track record in attracting private foreign direct investment, which amounted to roughly $2.4 billion in 2019, low for a nation of 37 million people. “A lot of work still needs to be done,” Patrone said. “The level of FDI is nowhere close to where the country needs it to be and where it could be.”
This is why renewed IMF lending “will be of paramount importance for more FDI to happen.”
Bank fraud prosecutions
But that’s only “step one,” as Patrone said. At least as far back as 2016, Patrone’s predecessor Francis Malige called attention to the glaring fact – still true today – that nobody has yet gone to trial or been prosecuted successfully for the national banking scandal that blew up in 2014. And, he might have added, little money has been recovered from ex-owners.
“There certainly needs to be much more resolute action in terms of rule of law and to make sure that when people steal money, they go to jail,” Malige said. “And frankly, when I see some of the schemes taking place, it doesn’t take a genius to unravel them. It takes a willingness to do so and a minimal level of competence on the part of law enforcement officers and courts of course that are exempt from the economic influence.”
The EBRD’s position hasn’t changed since then, Patrone said. “The elephant in the room is PrivatBank. I think we are all looking forward to see how the court cases will pan out, the one here in Kyiv, and how the various court cases around the world against the former owners will pan out,” Patrone said. “The systemic case in the banking system has not been taken care of yet. We expect to see progress there.”
When asked if criminal bank fraud should be prosecuted, he said: “It goes without saying.”
Mostly good news
But aside from these two issues, Ukraine’s economy has been picking up a good head of steam. “It was an exceptionally good year, especially in the context of twin elections,” Patrone said of 2019, referring to the spring presidential and summer parliamentary elections that changed political power in Ukraine.
Inflation and debt are down. The currency, as well as hard-currency and natural-gas reserves, are up. The economy is growing by 3 percent. The rookie government and lawmakers are passing laws to speed up privatization, deregulation, and investment in infrastructure. “The macroeconomic performance has been outstanding,” Patrone said.
The EBRD’s investments – which Patrone expects to be similar, in the 1 billion euro-range, in 2020 — have put the institution in the thick of the changes. He cited progress in Naftogaz’s unbundling of the gas transportation network as another advancement in the state energy monopoly’s further progress from its corrupt old ways.
But the $2.2 billion in arrears from exiled oligarch Dmytro Firtash’s gas distribution monopoly, as well as stagnant production of natural gas and oil, show that work in transforming the energy sector is still unfinished.
“It’s definitely not a done job,” Patrone conceded. “But the work by the leadership of Naftogaz job was absolutely outstanding in many respects. I would call it a very successful year for Naftogaz, from that perspective. There are a number of things that need to be taken care of: arrears, increase in production of UGZ (the state-owned gas production subsidiary), the stabilization of corporate governance, are all topics that need to be addressed in 2020.”
Corporate governance
In large state-owned businesses, such as banks, Naftogaz and Ukrzalyznytsia, the state-owned railway, the EBRD has pushed for the establishment of professional corporate supervisory boards to oversee the management practices. Many of those boards in many state-owned enterprises have been established, with some individual board members getting more than $100,000 annually and top managers getting multimillion-dollar annual salaries and bonuses.
“The overall assessment is pretty positive,” Patrone said. “There is a trend in the right direction, in terms of appointment of independent boards in state-owned banks and state-owned enterprises. One has to continue to be vigilant on how processes are conducted and what those processes are.”
He justified paid supervisory boards because its members “are required to have a level of engagement which is much higher than in normal circumstances. Therefore, pay plays a role.”
Renewable energy
The EBRD has invested heavily in “green energy” – with a portfolio valued at 260 million euros. But the future is cloudy. To attract investors, Ukraine’s government offered to pay unaffordably high rates – or tariffs – to encourage investment in the solar energy sector. But proposals to cut the tariffs have pit investors against the government. Investors want to avoid retroactive cuts that would considerably lower the return on investment in the multi-year projects. The EBRD and parliament have embraced competitive auctions, in which energy prices bid on tariffs, as a solution. Yet no auctions have taken place yet and the EBRD last year said it would not invest in any new solar energy projects until the questions are clarified.
He said the debate over tariffs was “less healthy than it should have been,” but Patrone now says he is “fairly optimistic” that a solution will be found. “A consensual solution based on voluntary restructuring is the way to go forward. It is imperative that the interests of investors that have taken an investment is preserved,” Patrone said. “Predictability is of paramount importance to those investors and for foreign direct investment in general. If you don’t want to jeopardize the reputation of the country in renewable and in general in terms of investment destination, you don’t want to change the rules of the game during the play.”
Romania, where he worked before, made such retroactive changes, he said, and lost new foreign investment as a consequence. “Investors want to see how this is going to pan out.”
Port concessions
The EBRD is also encouraged by a new law on concessions that will turn over the operation of two ports – Kherson and Olvia – to private interests as long as investments are made and rent is paid. At the end of the concession period, the state would regain control of the ports. The arrangement is seen as a win-win situation for a state starved of investment in its public infrastructure.
But Ukraine is not the only nation that Patrone oversees. The EBRD has invested more than 2 billion euros in more than 120 transactions in the six nations. The investments come in the form of equity stakes and long-term loans. Here are the 2019 highlights for the other five nations:
Belarus
Despite being governed by Alexander Lukashenko since 1994, Patrone is “pleased about what is happening in Belarus as well. We achieved a historic record of investment with 391 million euros in 24 operations, in a variety of sectors really, both public and private. The pipeline for 2020 is healthy enough to maintain the level of investment.”
Patrone said that “the government team is composed of credible reformers” seeking to selectively sell off state enterprises. “One would like to see an acceleration of privatization,” he said, but from “a different perspective, you want to do that in a proper fashion; don’t want to end up having all the oligarchs to seize all the assets up for privatization. Belarus has been very prudent. They avoided some of the issues that other countries have.”
Moldova
“We had a succession of governments there, but we did particularly well – the EBRD invested 111 million euros in 10 operations,” Patrone said. “We are proud of what we have done in the gas sector.” That included an “emergency gas purchasing line” that ensured heat in the winter in the event of disruption from Ukrainian or Russian supplies. “We continue to do our work in the banking sector. We have contributed substantially to the clean-up. That also has unlocked the ability to lend.”
Armenia
The lending reached 118 million euros, “typically the bulk is through the financial sector, which we find is the most efficient way to finance small-medium enterprises. We have set up the first Armenian-focused private equity fund with Amber Capital. It is very much anchored on EBRD and European Union investment and a number of institutional investors joining in and members of the diaspora as well.”
Georgia
“We have invested 296 million euros, another record; in a diversified range of activities, mainly in the private sector but not only. We have a sustainable pipeline of projects there.”
Azerbaijan
Patrone said that the EBRD has invested only 17 million euros in five operations in 2019. The country, run by Ilham Aliyev, has long been dependent on oil. “The partnership with the government should focus on where the infrastructural gaps are in the energy sector,” Patrone said. “The grid needs to be upgraded. The view is that the country should reposition itself in the renewable energy sector. The EBRD can play a significant role in the commercialization of state-owned enterprises” and in supporting economic diversification.
Top 2019 EBRD projects in Ukraine:
€150 million subscription to Naftogaz Eurobond
Loan of €149 million to UkrEnergo
$100 million subscription to the Eurobond by Ukraine Railways
Syndicated loan of €150 million to SyvashEnergoProm (250 megawatt wind farm in Kherson Oblast)
€116 million syndicated loan LLC Kronospan UA (wood processing)
For more information about the EBRD and what it does, go to the website here.
Read previous Kyiv Post coverage of the EBRD:
EBRD invests over $1 billion in Ukraine to boost local investment
