Francis Malige: It’s time to start lending again

The EBRD’s plans for Ukraine in 2018 include dozens of investment projects and providing cheaper loans to SMEs jointly with Raiffeisen Bank Aval. What are the Bank’s main priorities for this year?

The EBRD does about 25-30 projects a year in Ukraine, ranging from a couple of million dollars to several hundred million. They include infrastructure, industry, agribusiness and financial institutions. What we are trying to achieve in Ukraine, not just in 2018, but as our long-term goal, is to transform the country into an advanced market economy. Why? Because a market economy brings opportunities, wealth, productivity and prosperity to a country. We work in the public sector, because it brings prosperity to the private sector.

The private sector creates most of the value in a developed economy. But for the private sector to work, you need a public sector that works well, too. You can produce cars, but if people can’t drive them because the roads are in terrible condition, you aren’t going to sell as many cars as you could, right? And you aren’t going to create as much wealth and value as possible.

We believe that Ukraine has tremendous potential, but it needs investment in both the private and public sectors. When we invest in the public sector, we also try to bring new financing mechanisms to it, because there is a limit to what a budget can achieve.

One of the specific objectives in 2018 is to see the concession law approved, which has already passed first reading in the Rada. The EBRD provided the Ministries of Economy and of Infrastructure technical assistance in drafting the bill. Once the law is in place, you can start projects. And the good thing is that this means private sector money going into projects like ports, airports, roads, and so on. There is no need to take this money from the state budget. If you need to fix a port, for example, you can do two things: you can go to the Minister of Finance and ask for money, but the Minister’s main job is to say no, in order to save budget funds. Or you can go to the private sector and find interested investors who believe in the economy’s potential. And there are some. You just need to provide them with a proper legal framework so that they can invest. That’s what this concession law is doing for infrastructure.

We do need overall improvement in the business environment, which means less red tape, more protection of the property rights, and less corruption in the courts. That’s why the anti-corruption court is so important.

A previous TRUMAN Report quoted you on the slowing down of reforms as elections approach. What is happening with this tendency now?

The political agenda is always important. Once you have achieved something, there is a danger of becoming complacent. There were a few dramatic years when Ukraine had no access to capital markets. And then things improved enough to get access to them again. The point I was making is that now is not the time to be complacent. It’s time to pick up pace. Ukraine can move forward and go faster. There are some clear achievements: the Privatization Law, improving corporate governance at Naftogaz, and pension reform legislation. But in other areas, to be frank, people are dragging their feet. I’m not involved in Ukraine’s politics, but I understand the imperatives. It’s very important to take a long-term perspective and to make decisions that are for the good of the country. The Ukrainian people understand this.

Today the share of state-owned banks in Ukraine is an unprecedented 50%+. How long will it take to optimize the business model of these state-owned banks so they’re ready to be privatized? 

It’s a difficult question, because you don’t optimize a business model in order to be privatized. With a state-owned bank, there’s often a temptation to use it for local projects supported by local politicians or for strategic projects supported by the state. In fact, banking is a business. For a bank to work, business decisions should be based on the basis of risks and rewards. That’s the only way in which a banking industry works well. And so it’s probably better to have a larger share of banks in private hands. But it’s also important for some banks to remain state-owned, such as export-import banks. I think the question is when the banks are going to be ready for privatization, meaning when they can attract some interest. I think that, of Ukraine’s state banks, Ukrgazbank is more or less ready to be put on the market, as is Oschadbank. UkrExim is less obvious, because it does play a major role in exporting and is linked to the defense industry. As to PrivatBank, it has gone through a very difficult period and lost essentially its entire corporate lending portfolio, so it needs to recreate its balance sheet and establish a sound lending business. Once this is done, it may be ready for privatization. In the case with Privat, I think that will take around 3 years. I don’t expect to see the privatization of Privat before 2021. In the case of Oschadbank, it could be sooner. The point is that you needn’t wait for the bank to be perfect. You wait for the bank to be good enough. Establishing good corporate governance is a relatively cheap way of doing this.

What do you think is Ukraine’s main achievement in the financial sector during the last six months?

The appointment of the National Bank of Ukraine Governor.

Your estimation of the National Bank’s work during the last difficult years is high. How consistent do you expect the NBU’s policy to be, after the appointment of Yakiv Smoliy?

I expect it to be very consistent. I don’t mean that they will blindly continue the same line as their predecessors, but I think that the National Bank is on the right track, in terms of cleaning up the banking sector, managing monetary policy, and so on. That’s recognized by everyone. Now we have a Governor approved by the Rada. It’s not an easy job, but I expect that he will continue along the same lines.

Under the right conditions, EBRD might consider putting capital into PrivatBank and Oschadbank. Does your Bank see signs of a complete recovery in Ukraine’s banking system coming soon?

Assuming that the country remains on track with the IMF and on a good path in economic management, I don’t see a banking crisis ahead. It’s behind us now and it’s time for banks to start lending again. Many of these banks will actually need new capital. We are already shareholders in two large banks in Ukraine, Ukrsibbank and Raiffeisen Bank and we could become shareholders in a few more, possibly even in the state-owned banks. Part of our work is pre-privatization support for state-owned enterprises. How do we do that? One of the options is to take a minority stake, say, 10-20% and then work together with the management to improve compliance, risk management and governance. And then, after a few years, we help organize a transparent privatization process: sell it on the market or find a strategic partner. That, of course, is all discussed with the Government.

PrivatBank’s debt to the NBU for refinancing loans is over 10bn hryvnias. How likely will that money be returned? How does the EBRD work with non-performing loans?

We do work with non-performing loans, but we need the right laws in place. When a loan is non-performing, you have to understand why. Maybe there has been fraud and the money has been lost. There was something like kind at PrivatBank, as we all know. But sometimes the loan is non-performing simply because businesses are struggling, so they need to restructure and they need a bit more time. They may have taken a loan for 5 years, but, in fact, they need 7 to repay. Maybe they need to sell some assets. But it’s important to understand the nature of non-performance. Sometimes it’s better to renegotiate rather than simply push the borrower hard. There is a misconception that if you haven’t renegotiated a loan, you haven’t lost the money. Sometimes a better way to recover most of your money is to renegotiate the loan, meaning giving up some of the principle. That enables the borrowing company to restart.

In the case of PrivatBank, it had to be nationalized. There were significant commercial losses, related party lending, and so on. But clearly, recovering the depositors’ funds is a long-term effort.

In the Energy section of the TRUMAN Report, we are emphasizing gas extraction. To achieve the strategic goal of energy independence, Ukraine needs technology and investment. The EBRD is working with Naftogaz to reform the company. Will this attract more investment to gas extraction?

We support reforms aimed at making a transparent gas market in Ukraine. For the gas market to work well, gas transit needs to be independent. That’s what is called unbundling. Unbundling actually means, in the context of the EU directives of the Third Energy Package, separating transit. Either the extraction or production, or the distribution must be run by separate entities. How do you achieve energy independence in Ukraine? Firstly, you can produce more gas or you can consume less. Ukraine is one of the most energy-inefficient economies in Europe. It’s not just about pumping out more billions of cubic meters out of the ground. It’s also about making sure that central heating works well. A district heating company can reduce energy bills by up 60% after upgrading its network for generating and distributing heat around a city. Energy efficiency matters a lot. Consumers should be interested in it simply because they are paying the bills, and their main objective should be to invest in energy-efficient solutions in order to pay less.

Also, if you have a regulated rather than market price when you produce gas and you have to sell it to the domestic market at this price, investors aren’t going to be very interested. Such a business model is not sustainable. FDI is needed in this sector to bring innovations, technologies, know-how and capital.

You were in a privatization working group headed by Minister Sayenko. How systematic is the work of the government on the launch of big and small privatization?

The privatization process has effectively failed.

However, there is some progress today: firstly, we have a privatization law that has been approved and signed by the President. It allows Ukraine to conduct privatizations in line with best practice. Evaluation of assets no longer has to be conducted according to post-soviet principles. It might seem funny, but these are very different from the ones that investors are looking for. It’s now possible to use English law for privatization contracts. The process is more transparent. To privatize well, you need transparency in the assets you are going to privatize. Every company has some difficulties, and it’s better to be straightforward about them rather than let investors discover them at the due diligence stage. Surprises in such cases are always bad surprises. You also need transparent buyers and a transparent process. Evaluating a company for privatization is a huge effort for investors, so they want to know that they are not wasting their time. They are happy to fight, but they want to know it’s a fair and square fight and an honest competition.

Secondly, you need a decision-making process that works better. With this new privatization advisory group Ukraine has a better process than before. It’s time to move. The list of enterprises to be privatized is being drawn up. There will be discussions about this at the working group. I hope that the results are good, as that will be a major achievement for Ukraine. As to bringing more investment to the country, privatization is a great vehicle, if it’s done properly, to put the country back on the map for investors.

What do you see in Ukraine to reassure the EBRD that the changes it supports will be successful?

We try to bring solutions that are adapted to Ukraine. I think that Ukraine is a country of absolutely astonishing talent and entrepreneurial spirit. It’s a question of freeing it and making sure that people feel that it’s worth their time and effort to start a business here. In order to succeed, you have to work very hard. And people want to know that if they are going to work so hard, they will be able to enjoy fruits of their labor. That is what we are aiming to help with—to establish a better business environment. Not only for entrepreneurs themselves, but also for the sake of the jobs they create and the country as a whole.