During the last 30 years, Soviet-era state enterprises have become a big burden for Ukrainian taxpayers. 46% of them don't generate revenue and thus drain the state budget. Rather, some of them bring profits to the oligarchs.
Oligarchs, the ultra-rich social strata with a grip on Ukraine's political life, were themselves born as a class during Ukraine's first Big Privatization of state enterprises, which was launched after Ukraine’s declaration of Independence in 1991. Then, they purchased Soviet factories for pennies and laid the foundation for their current wealth and influence. But the enterprises that were left in the state’s property did not escape the oligarchs' attention, either -- they are plundered through corrupt schemes involving loyal state servants.
This spring, Ukraine again launched a Big Privatization of state enterprises. This time, the oligarchs’ interest is not so much buying state assets, but preventing the transparency of the process and even blocking it. However, if the process is held through real transparent procedures and the privatization is successful, private investors will be able to develop the enterprises they bought and Ukraine's economy will receive a major boost.
“Expected revenues from large-scale privatization are UAH 9bn (about $328mn). But this is only the book value of enterprises. Looking at the enterprises that are being prepared for sale this year, we can say with confidence -- if all the planned auctions take place, the budget will gain much more.”Ihor Petrashko, Minister of Economic Development, Trade and Agriculture commented removing restrictions on the sale of large state-owned enterprises will not only replenish the state budget, but also attract a large amount of private investment in the development of these companies and the economy of Ukraine. Throughout 30 years of Ukraine’s Independence, this is not the first time the state allowed big privatization. After all, privatization was the means by which Ukrainian oligarchs were able to carry out an immense power grab, let alone enormous wealth. So why will it be different this time?
Why oligarchs appeared in the process of privatization, and what has changed now
Prokhorov divides Ukrainian privatization into two periods: before the 2018 adoption of the new Ukrainian privatization law and after it.“Before [2018], indeed, oligarchs emerged on the basis of the assets of the former USSR. But this was more due to the general chaos after the collapse of the Soviet Union and unfair privatization rules. Now there is new clear legislation and a more or less market economy.”Before. Prokhorov explains that in the first years after Ukraine’s Independence, privatization was often based on the mechanism of distribution of preferred shares. Ostensibly, workers were to redeem a company on preferential terms. However, the process was coordinated by acting management represented by the so-called red directors, aka the communist nomenklatura that served as the de-facto Soviet ruling class.. The aim was to transfer ownership rights to private hands. Two major flaws lay in this approach:
- First, it should have been done much faster due to the lack of internal market capital;
- Second, because the state needed the population’s support for the process, Ukrainian investors were prioritized instead of foreign ones.
“However, such privatization has cemented the position of so-called ‘red directors,’ providing politically connected individuals with access to state assets. Of the nearly 12,000 companies privatized in 1992-94, about 80% were privatized in this way rather than by foreign institutional investors,” Prokhorov says.Summarizing, Prokhorov says that in the 2000s, Ukraine’s major minerals and energy facilities were handed over to individuals through special laws passed by Parliament. He gives an example of selling 10 metallurgical enterprises of the State Joint Stock Company Ukrrudprom. The sale was completed under a special law that cleared the way to purchasing Ukrrudprom stock by shareholders owning no less than 25%+1 share. This quantity of shares was held by the combined assets of the biggest oligarchs – SKM, Rinat Akhmetov; Smart Group, Vadim Novinsky; and Privat, Ihor Kolomoyskyi. In effect, they purchased Ukrrudprom. After. In 2018, the Law on Privatization of the State and Municipal Property was passed. The law clarified the practice of privatization for investors and introduced the instrument of the Investment Adviser. The advisor’s role was to determine the condition of an enterprise, define the share value, and attract potential investors.
“These are well-known international companies with a reputation in which there is no interest in giving companies to the oligarchs by agreement. This ensures greater transparency of privatization procedures,” Prokhorov says.The expert adds that the law significantly reduces the participation of Russia in Ukrainian privatization, which is regarded as an aggressor country after the illegal annexation of Crimea and the invasion into and ongoing war in Donbas.In particular, the companies in which residents of Russia own 10+% of shares will not be admitted to the auction. As well, the participation of companies with 50+% shares owned by offshore companies is restricted.
“This time, if an oligarch buys an enterprise up for privatization, they will most likely do so on a competitive basis.”Prokhorov adds that for the oligarchs, in the long run it is more profitable and advantageous to reap profits from exploiting state enterprises through loyal state servants rather than to buy and develop them.
Possible risks coming from oligarchs
"There is no state-owned company in Ukraine that oligarchs or politicians do not profit from. The National Anti-Corruption Bureau in its reports recognized this as one of the most common forms of corruption. Since the oligarchs are interested here, they will challenge the results of large-scale privatization through the courts,” Kanevskyi predicts.Prokhorov adds that not only well-known richest oligarchs have interests in state enterprises and connections in the government structures; less-familiar ones have them, as well.
“If large-scale privatization plans are implemented, oligarchs and the like will have fewer opportunities to profit ‘in a dark way’ from state-owned enterprises, and fewer resources to fund dishonest politicians and officials,” Prokhorov says.Successful privatization will remove a huge financial burden from ordinary citizens. Kanevskyi explains that the debts of overwhelmingly unprofitable state enterprises are paid off by the state, aka the ordinary taxpayers.
“Thus, the losses concern every Ukrainian who will sooner or later repay them from their own pocket,” the expert says.But when an enterprise belongs to a private owner, no matter who they are, the losses are not the state’s burden. Khrystyna Zelinska is the manager of innovation programs in Transparency International Ukraine. She is confident that the risk of oligarchs blocking privatization can be prevented by good monitoring of share auctions and an independent evaluation of participants. The expert stresses that the question of eligibility of any particular trader should be determined, both as to whether they have the resources to buy shares and as to whether these resources are legal.
Other risks for privatization
Among the other risk factors which hamper privatization, Prokhorov underscores the pandemic, which can flare up in Ukraine with new force at any moment, as well as general political turbulence, and significant resistance of various groups of influence to the process.“For example, the fact that large-scale privatization has been blocked for the whole year shows that there are people in government offices who benefit from delaying the process. It is very sad to realize that hundreds of work-hours and efforts of the top management of the State Property Fund, international partners, and the Ministry of Economy went to correct this annoying mistake. Although a successful auction could be a trump card in the hands of the authorities against the background of the failure to combat the pandemic and cooperation with the International Monetary Fund.”As well, Prokhorov sees a risk in that the list of big privatization poses problems itself.
“This is the United Mining and Chemical Company, which in 2020 was accused of supplying raw materials to Crimea, and which often changed management due to suspicions of the game not in favor of the state. And the Odesa Port Plant with the ‘toxic’ debt of the Ostchem group and the debt of Naftogaz. The President Hotel can also scare away investors: it is rented by a private company up to 2034, and tourism is not experiencing the best times.”Prokhorov says that to prevent risks, the State Property Fund has to have an opportunity to address the barriers together with consultants. The government should not delay critical decisions, nor should Parliament block auctions for privatization. Moreover, those who have unofficial influence on the judicial system should not deter the decisions of the State Property Fund. Specifically, they should not block potential competitions nor the results of the privatization in the courts.
What is up for privatization
Thus far, there has been only one truly successful case of privatization in Ukraine’s history – the reprivatization of Kryvorizhstal (now ArcelorMittal), Ukraine’s largest integrated steel company. Located in Kryvyi Rih, this reprivatisation took place in 2005. It brought $4.8bn to the country and increased the amount the State received from the first privatization in 2004 by 5.7 times. The foreign company Mittal Steel Germany GmbH won the reprivatization bid.
- Centerenergo, dealing with producing and providing electricity. Its three thermal power plants produce 15% of the capacity of electricity in the country.
- United Mining and Chemical Company, one of the world’s largest producers of rutile and zircon concentrate.
- Odesa Port Plant, a major chemical enterprise in the country.
- Kharkiv Oblenergo, electricity distribution, commercial energy accounting services.
- Khmelnytskyi Oblenergo, electricity distribution for the citizens of Khmelnytska Oblast.
- Sumykhimprom, production of mineral fertilizers, coagulants, additives to cement, acid, titanium dioxide, pigments and other chemical products.
“Foreign companies have more money, but Ukrainian oligarchs are more willing to pay, because they better understand the specifics of Ukraine,” Parashchiy says.Prokhorov regards the chances of foreign investors taking part in the privatization bid are not high, but they exist. The biggest obstacles, according to a regular survey of foreign investors conducted by the Center for Economic Strategy, the European Association, and Dragon Capital, lie in the distrust of the Ukrainian judiciary as well as widespread corruption.
In general, the recent attempt of privatization was welcomed by the experts of the field. The main threat it created for Ukraine’s healthy business - oligarchs is no longer a threat in a way they were before. However, it is too early to celebrate yet as the different forces, including oligarchs are able to create different kinds of obstacles for the transparent process of privatization not wanting to give up the leverages of influence they have through the corrupted officials. As well, to make this privatization in a proper way, Ukraine has to continue comprehensive work on the anti-corruption and judiciary reforms.
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