VZCZCXRO5576
RR RUEHDBU RUEHIK RUEHLN RUEHPOD RUEHVK RUEHYG
DE RUEHKV #2892/01 3301348
ZNR UUUUU ZZH
R 261348Z NOV 07
FM AMEMBASSY KYIV
TO RUEHC/SECSTATE WASHDC 4407
INFO RHEBAAA/DEPARTMENT OF ENERGY WASHINGTON DC
RUEHZG/NATO EU COLLECTIVE
RUCNCIS/CIS COLLECTIVE

UNCLAS SECTION 01 OF 02 KYIV 002892 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
DOE PLEASE PASS TO LEKIMOFF, CCALIENDO 
 
E.O. 12958: N/A 
TAGS: ENRG EPET ECON UP
SUBJECT: UKRAINE: DNIPROENERGO - AN EXAMPLE OF INTRANSPARENCY 
PRIVATIZATION 
 
 
Sensitive But Unclassified. Not for Internet Distribution. 
 
¶1. (SBU) Summary.  Rinat Akhmetov, Ukraine's richest man and a key 
financial sponsor of the Party of Regions, recently acquired 40 
percent ownership in financially troubled Dniproenergo, a large 
power generation company, through a controversial share issuance. 
Most observers believe that Akhmetov got the stake at far below its 
true value.  Both President Yushchenko and Yuliya Tymoshenko 
criticized the handling of the privatization, with Tymoshenko 
assuring voters prior to the recent elections that she would return 
Dniproenergo to state ownership should she become prime minister. 
Later, however, she said she would let the courts decide the fate of 
the deal.  Prime Minister Yanukovych has defended the deal.  The 
transaction is unfortunately yet another example of problems 
besetting Ukraine's deeply flawed privatization policy, yet it may 
have a silver lining.  Widespread critical media coverage suggests 
that more transparency might raise the risks of such transactions 
and hence make them more unlikely in the future.  Tymoshenko's 
willingness to refer the deal to the courts might indicate that she 
might have learned from the re-privatization mistakes committed 
during her last stint as Prime Minister in 2005.  End summary. 
 
Dniproenergo's History of Financial Woes 
---------------------------------------- 
 
¶2. (U) Dniproenergo, headquartered in the Zaporizhya Region, is 
Ukraine's second largest thermal power generation company.  Like 
many companies in the energy sector, it has a history of financial 
problems.  In 2001, an economic court of the Zaporizhya region 
initiated bankruptcy procedures against Dniproenergo.  The same 
court, in September 2003, recognized $275 million of debt to 65 
companies and organizations.  The court also appointed a financial 
restructuring manager for Dniproenergo.  According to the local 
press, the present restructuring manager is a former board member of 
a coal mine owned by Donbass Fuel Energy Company (DTEK), the energy 
arm of Akhmetov's System Capital Management holding company. 
 
Dniproenergo Share Issuance 
--------------------------- 
 
¶3. (SBU) In late August 2007, representatives of the state's 
interest in Dniproenergo agreed to issue a 52 percent increase in 
share capital to avoid bankruptcy.  According to Ukrainian press, 
the only company effectively allowed to purchase these shares was 
DTEK, one of Dniproenergo's largest creditors.  Press reports 
indicate that a debt-for-equity deal was reached in which DTEK 
agreed to cover $200 million of debt to creditors, mostly state 
enterprises, in exchange for additional equity that increased DTEK's 
stake in the company from 9 to approximately 40 percent.  In 
addition, DTEK pledged to invest $200 million to upgrade capacity 
over the next five years.  However, the pledge does not appear to be 
legally binding.  The market value of the company is currently 
estimated at between $1.5 and $2.2 billion.  Analysts thus believe 
that DTEK purchased its shares at a substantial discount to the 
market price. 
 
Deal Expands Akhmetov's Interests, Dilutes Others 
--------------------------------------------- ---- 
 
¶4. (SBU) Akhmetov, by all accounts Ukraine's richest citizen, is a 
member of parliament and the primary financial sponsor of the Party 
of Regions.  With his companies already managing VostokEnergo, a 
thermal power generating company in Donetsk, the additional 
investment in Dniproenergo gives Akhmetov strong influence over 
almost half of the country's thermally generated power.  The share 
issuance reduced the state's stake in Dniproenergo from 76 to 50 
percent plus one share.  The remainder belongs to minority 
shareholders whose stakes have been reduced from 15 to 10 percent. 
According to press reports, foreign investors who saw their holdings 
shrink are angry and claim that the transaction could damage 
Ukraine's investment climate.  However, while the minority 
stakeholders could file suit, most reportedly are expected to take 
advantage of a share buyback scheme on offer or hold onto their 
reduced stakes in hopes that the share price will continue to 
increase. 
 
Yushchenko and Tymoshenko Criticize Deal 
---------------------------------------- 
 
¶5. (U) Yushchenko criticized Yanukovych's handling of the 
privatization and issued a decree in early August ordering the 
government to prevent asset stripping of state-controlled energy 
companies by imposing a ban on share capital dilutions.  He also 
took measures to prevent the planned privatizations of several other 
companies.  (Note: under Ukrainian law the President's decree was 
not binding, as the authority to ban share capital dilutions belongs 
to the Cabinet of Ministers.  End note).  Yuliya Tymoshenko took the 
 
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issue a step further.  As part of a broader attack on what she 
described as the current government's policy of enriching its 
allies, Tymoshenko sharply criticized Yanukovych and Akhmetov and 
alleged that the deal had been fixed.  In a letter to the 
Korrespondent newspaper, she claimed the Dniproenergo sell-off 
represented a classic scheme in which a company is forced into 
bankruptcy and subsequently rescued by a kind creditor who, in 
reality, facilitated the forced bankruptcy in order to gain control 
of the company.  She also asserted that the company had been 
undervalued and that Akhmetov could now move to control the energy 
sector and increase electricity prices significantly. 
 
¶6. (SBU) Most commentators now believe that the reprivatization 
policy during Tymoshenko's eight-month term as prime minister in 
2005 was poorly managed and damaging to the investment climate, 
despite her success in reprivatizing Kryvorizhstal.  (Note: 
Kryvorizhstal was sold to Akhmetov and fellow oligarch Viktor 
Pynchuk for $800 million in 2004 just before then-President Kuchma 
left office.  Tymoshenko retook control of the company when she came 
to power and subsequently sold it to steel magnate Lakshmi Mittal 
for $4.8 billion in an open and transparent tender.  End note.) 
Prior to the pre-term September 2007 elections, Tymoshenko declared 
that companies such as Dniproenergo that had been "stolen" through 
shadowy privatizations would be returned to the state.  She 
subsequently clarified in a newspaper interview that such disputes 
would be resolved in the courts and said that lawsuits had already 
been filed to stop the Dniproenergo acquisition. 
 
Yanukovych Defends Deal, Criticizes Tymoshenko 
--------------------------------------------- - 
 
¶7. (SBU) Yanukovych has defended the acquisition as a way of 
improving Dniproenergo's financial position. Some analysts agree 
that greater private ownership could improve management, eventually 
raising share prices.  In addition, Yanukovych's supporters 
responded to the attacks by drawing attention to controversial deals 
made by the government during Tymoshenko's term as prime minister, 
and to her own alleged ties to big business. 
 
Comment 
------- 
 
¶8. (SBU) The Dniproenergo case is not an isolated one, as Ukraine's 
history is marred with non-transparent privatizations that have 
benefited a few well-connected insiders.  The fate of Dniproenergo 
will depend on whichever political constellation forms a government. 
 It seems fair to assume the deal is unlikely to be questioned as 
long as PM Yanukovych remains in power.  An Orange government might 
question the privatization, yet it now appears that Tymoshenko, 
should she become PM, will allow the courts to decide the legitimacy 
of the deal. 
The Dniproenergo deal may have a silver lining.  Minutiae of the 
deal have been widely reported and analyzed in the media, with 
nearly all commentators arguing that Akhmetov got his share on the 
cheap.  Such vigorous reporting is an indication that it is becoming 
more difficult to pull off shady deals without Ukrainian society 
taking notice.  More transparency could raise the costs and risks of 
such transactions and hence reduce their likelihood in the future. 
In addition, Tymoshenko's willingness to refer the deal to the 
courts might indicate that her campaign threats were only rhetoric, 
and that she might have learned from the re-privatization mistakes 
committed during her last stint as Prime Minister.   End comment. 
 
Taylor