VZCZCXRO0640
RR RUEHDBU RUEHSL
DE RUEHKV #2171/01 3521618
ZNY CCCCC ZZH
R 181618Z DEC 09
FM AMEMBASSY KYIV
TO RUEHC/SECSTATE WASHDC 9000
INFO RUCNCIS/CIS COLLECTIVE
RUEHZG/NATO EU COLLECTIVE
RHMFISS/DEPT OF ENERGY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RUEATRS/DEPT OF TREASURY WASHINGTON DC

C O N F I D E N T I A L SECTION 01 OF 03 KYIV 002171 
 
SENSITIVE 
SIPDIS 
 
DEPT FOR EUR, EUR/UMB, EEB/OMA 
 
E.O. 12958: DECL: 12/17/2019 
TAGS: EFIN EREL ETRD PGOV PINR UP XH
SUBJECT: TALE OF TWO DEFAULTS: THE UKRZALIZNYTSA DEBT 
RESTRUCTURING 
 
REF: KYIV 2140 
 
Classified By: Economic Counselor Edward Kaska for Reasons 1.4 (b) and 
(d) 
 
¶1.  (C) Summary.  Following market angst over the possibility 
of a Ukrainian sovereign default, negotiations have resumed 
between creditors and Ukrzaliznytsa, the Ukrainian 
state-owned railway company, whose subsidiaries recently 
defaulted on a $110 million loan payment.  An Ukrzaliznytsa 
advisor refuted Deputy Prime Minister Nemyria's claim that 
Ukraine needed to allocate budget monies for Ukrzaliznytsa's 
debt payment.  He was confident that a compromise would be 
reached by the end of January 2010 to extend outstanding 
principal loan payments of $440 million into 2012.  Once the 
debt is restructured, the railway company, which is expected 
to have good cash flow again in 2010, should be able to make 
future payments.  End summary. 
 
HARDLINE REACTION 
----------------- 
 
¶2.  (C) The $550 million Barclays syndicated loan had been 
originally taken out in 2007 by Ukrzalyznytsa at LIBOR plus 
2.5% for the completion of trestles and the procurement of 
rolling stock.  The terms of the loan were modified in August 
to LIBOR plus 5.0%, when the company (via its six regional 
railway subsidiaries) made its first principal and interest 
transfer of $118 million.  Although the company made an $8 
million interest payment on November 11, it missed its second 
principal transfer of $110 million.  Market analysts 
suggested that Ukrzaliznytsa had been temporarily hit by 
lower cargo volumes during the first nine months of 2009, 
with declines of 29.4% compared to the same period in 2008. 
¶3.  (C) Squire Capital partner Robert Grant (please protect 
throughout), serving as Ukrzaliznytsa's advisor on the debt 
restructuring talks, confirmed to Econoff that some of the 26 
investors in the Barclays Capital's syndicated loan had taken 
an "adversarial" stance toward Ukrzaliznytsa after the six 
subsidiary railways defaulted on the $110 million principal 
payment.  Led by BlueCrest Capital and Banco Finantia, 
hardliners within the creditors' steering committee had 
demanded immediate payment of $50 million from Ukrzaliznytsa. 
 They had called on the Ukrainian Ministry of Finance to bail 
out the state-owned company and offer a sovereign guarantee 
as a condition for restructuring, according to Grant.  The 
creditor group had also sought a higher interest rate in line 
with Ukraine's current sovereign yield curve, with an 
amortizing schedule concluding payments in 2011. 
 
"NO BLOOD FROM A STONE" 
----------------------- 
 
¶4.  (C) Grant told us on December 17 that internal divisions 
within the creditor group had allowed Ukrzaliznytsa to 
conclude, however, that 8-10 investment banks wanted to 
finalize a restructuring agreement.  A "middle bloc" of banks 
could be persuaded to accept a "take it or leave it" exchange 
offer that Squire Capital would launch on January 11 and 
close on January 27, especially because the bankers had come 
to realize they would get "no blood from a stone". 
Ukrzaliznytsa would sweeten its original offer from 8.75% to 
9.25% with a 1.25% structuring fee and full principal 
payments spread out over 2010 ($90 million), 2011 ($150 
million), and 2012 ($200 million).  There was also a 
possibility Ukrzaliznytsa would ante up an additional $20 
million for 2010, making the 2012 principal payment $180 
million. 
 
¶5.  (C) Grant underlined that Ukrzaliznytsa would make no 
principal payments until May 2010.  He also denied that the 
Ukrainian government planned to come to the aid of 
Ukrzaliznytsa.  Deputy Prime Minister Nemyria had told the 
Ambassador on December 15 that the GOU needed to make a 
"large payment to the Ukrainian railways on December 29" as a 
part of a deal to conclude Ukrzaliznytsa's "sensitive" debt 
restructuring (reftel).  (Note: Nemyria had made this 
statement while pitching Ukraine's case for emergency IMF 
monies.  End note.) 
 
¶6.  (C) Grant believed Ukrzaliznytsa could exploit a loophole 
in the syndicated loan's contractual sharing provision. 
While any payments to creditors would need to be split 
pro-rata, the sharing provision could be waived if two-thirds 
of the investors agreed.  Grant thought that this would 
 
KYIV 00002171  002 OF 003 
 
 
isolate the most hostile hedge funds and lead to a quick 
resolution.  He had already reached out to senior ING 
executives in Amsterdam who had agreed to serve as a 
"stalking horse" among the creditors. 
 
EGG ON FACE FOR BARCLAYS'S RUDLOFF 
---------------------------------- 
 
¶7.  (C) In the meantime, having already sold out its share in 
the syndicated loan, Barclays Capital resigned as the 
exchange agent.  Furthermore, rumors swirled that some of the 
26 investors had accused Barclay's chairman Hans-Joerg 
Rudloff of mismanagement and incompetence. 
 
¶8.  (C) Grant indicated that Rudloff had raged against Prime 
Minister Tymoshenko in a recent private phone call, 
expressing his disgust with the GOU for failing to meet terms 
of its loan agreement.  Grant speculated that Barclays 
Capital was acting aggressively in an attempt to cover up for 
either misleading investors or not doing proper due diligence 
on the syndicated loan documents. 
 
¶9.  (C) Rudloff and other Barclays representatives had 
allegedly told investors that the Barclays syndicated loan 
contained cross-default covenants, which would have triggered 
an acceleration of a second Ukrzaliznytsa syndicated loan 
(from Deutsche Bank) that had been secured with a sovereign 
guarantee.  Grant pointed out, however, that Barclays and all 
26 investors had the opportunity to review loan documents 
when they were last amended in August.  At the time, 
Ukrzaliznytsa lawyers had stripped an amendment in the loan 
document that had made Ukrzaliznytsa an obligor.  With the 
syndicated loan taken only in the name of the six regional 
Ukrainian railroads, Ukrzaliznytsa was no longer on the hook 
in the event of default.  None of the creditors had caught 
this amendment until the "crash". 
 
UNFOUNDED PANIC 
--------------- 
 
¶10.  (C) Panic ran through European markets on November 20, 
after fears of a purported Ukraine sovereign default 
generated automated "sell" instructions for bond traders. 
According to Kyiv-based Dragon Capital managing director 
Peter Bobrinsky, the default news was circulated by a 
disgruntled hedge fund investor in the Barclays' instrument. 
Allegedly, Moore Capital representatives had divulged that 
the Barclays debt contained cross-default covenants, which 
(if true) would have triggered accelerated payment of the 
sovereign-guaranteed $700 million syndicated instrument with 
Deutsche Bank.  In the midst of a severe budget crisis and 
with its IMF loan program off track, Ukraine would have been 
hard pressed to meet such a large, unexpected sovereign 
obligation. 
 
¶11.  (C) Dragon Capital's Bobrinsky speculated that Deutsche 
Bank would have had no reason (legal or political) to seek 
payment acceleration.  Not only was there no explicit 
cross-default covenant in the Barclays syndicated loan to the 
six Ukrainian regional railways, Deutsche Bank was not in a 
position to push for acceleration with Ukraine's authorities, 
who have not yet ruled on issuing Deutsche Bank a commercial 
operating license.  Germany's leading financial institution 
only maintains a small representative office in Kyiv but has 
plans to open a subsidiary in the coming months. 
 
¶12.  (C) Separately, representatives from the Moody's rating 
agency concurred with Bobrinsky's assessment after meeting 
with Ukrainian Ministry of Finance officials.  Moody's 
announced that the default on the $110 million payment to 
Barclays had "no impact" on the Deutsche Bank loan and could 
not lead to a accelerated sovereign-backed obligation. 
 
A POST-DUBAI WORLD 
------------------ 
 
¶13.  (C) Grant told us that, on the sidelines of the 
Ukrzaliznytsa talks in London last week, there were numerous 
conversations among investors about the Dubai debt scare and 
the general creditworthiness of quasi-sovereign borrowers 
worldwide.  Whereas hybrid, quasi-sovereign firms once had 
looked like a good bet with their mix of public and private 
sector attributes, Ukrzaliznytsa investors had seemed to 
conclude that shaky state finances would continue to 
undermine confidence in state-owned strategic enterprises. 
 
KYIV 00002171  003 OF 003 
 
 
Nonetheless, absent legal or political means to avoid a debt 
restructure, creditors would take the best deal they could 
get, thought Grant, especially because there would be a new 
Ukrainian president and a turnover in Ukrzaliznytsa 
management after the upcoming presidential election. 
 
COMMENT 
------- 
 
¶14.  (C) An Ukrzaliznytsa debt restructuring deal that repays 
principal in full at acceptable terms will slightly ease 
investor fears about other Ukrainian quasi-sovereign debt. 
Although we have not seen details of a recent audit conducted 
by Ernst and Young, Ukrzaliznytsa is a solid company with a 
good medium to long-term cash flow outlook.  Barclays and its 
investors had been mistaken to misread loan documentation and 
conclude Ukrzaliznytsa could be forced to make $110 million 
quarterly principal payments under the threat of a cross 
default.  In the end, it appears very likely that the 
Ukrainian state railway company will conclude a deal in 
January that should set the matter to rest. 
 
TEFFT