Alexander Paraschiy
Head of Research
[email protected]
+38 044 391 55 77

Whether Kyiv’ debt be another "debt of Yanukovych?"

The Kyiv City Council together with the Ukrainian Ministry of Finance adopted a common proposal to restructure debt to holders of Kyiv Eurobonds. At first sight, it is difficult to refuse. However, according to the Ministry of Finance, the largest creditors of the city are not ready to accept the offer. According to the same statement, the Ukrainian party will insist on the declared terms of restructuring, which may cause another intrigue like those dealing with the three billionth debt of Ukraine to the Russian National Welfare Fund. Let’s try to explore merits and flaws of the offer itself, and the negotiating power of the parties.

Proposal for restructuring: everything is relative

The Ministry of Finance called their offer "a fair and reasonable compromise," and here we have nothing to object. After all, the proposed conditions, when compared with the already accepted parameters of restructuring of sovereign Eurobonds of Ukraine, look even better to some extent. Please remind that Kyiv bonds are among securities to be restructured on a par with the public international debt. Earlier, the Ministry of Finance suggested that terms for Kyiv creditors will be similar to those offered to the Ukrainian public creditors.

Based on the brief analysis of the pros and cons of the Ukrainian offer, we see it looks really balanced:

• On the one hand, Ukraine is ready to exchange its municipal (under-sovereign) Kyiv Eurobonds to the "absolutely sovereign", which are considered, by definition, more reliable. In addition, these bonds are liquid, i.e., it is much easier to sell them in the market.

• Instead of "rising status" of Kyiv debts, the offer provides for reduction of the interest rate. This rate has already been approved by holders of government bonds and, as for the latter, it is 7.75%. Please note that it is lower than the rate offered for the Kyiv bond holders before (from 8.0% to 9.4%).

• Similar to terms of government Eurobonds restructuring, Ukraine asks for some grace period. Thus, Kyiv bonds should have been paid in full in November 2015 ($ 250 million) and July next year ($ 300 million). Instead, the Ministry of Finance offers to exchange for new bonds maturing in 2019 and 2020, respectively. It should be noted that such grace period is really a serious concession, if compared with, for example, the sovereign Eurobonds maturing in June 2016. Holders of such bonds have already agreed to receive the first payment in 2019 and the last - in 2027.

• In case of a shorter grace period, the government insists on the greater debt relief - 25% instead of 20% - for public securities. Note that as such no relief or remission occurs - instead all holders of old shares will get derivatives, under certain conditions allowing them to receive substantial payments from the Ukrainian budget in 2021-2040. Apparently, even today cost of these derivatives is more than zero.

What Kyiv creditors think about this?

We do not have full understanding of objections of international creditors on the proposed terms of the Kyiv bonds restructuring, but we may assume that they are not completely satisfied with a leveling of their position with the position of the sovereign bonds holders. The fact is that Kyiv bonds were traded at the higher rates than similar (in terms of maturity date) government bonds. That is, it was assumed that their non-payment risks were comparable with those of government bonds (and credit ratings were always the same), but the interest rate was higher. Just because of higher interest rates, Kyiv bonds were more expensive than government ones. When accepting the "comparable” terms of exchange, holders of Kyiv bonds have to recognize that their securities cost the same as the sovereign bonds. Apparently, such "historical injustice" is unacceptable for them.

Prices in for Eurobonds (white) and comparable Ukrainian Eurobonds (yellow).

What is the dispute outcome?

The position of the Ministry of Finance on the need to "write off" 25% of the Kyiv debt instead of 20% is not a critical one for Ukraine's debt burden - in fact, these additional five per cent totals 0.8% of potential payments on government bonds in 2019-2020. Therefore, it is clear that the Ministry of Finance offers such terms for Kyiv bonds with due regard for its biggest creditors, that have agreed to restructure $ 15 billion debt. If offering much better terms for smaller lenders, including holders of Kyiv debt of 0.55 billion, Ukraine runs the risk of insulting the big players. Alternatively, Ukraine will get a wide moral support of big international funds in a dispute with minor creditors.

In addition, the recent experience of the Ukrainian government in a dispute with Russia's holders of the three billionth debt is very important. I recall, they did not agree to the terms of restructuring, and their issue was suspended with no certain prospects to get some payments. Encouraged by this experience, the MoF will firmly defend its position in relations with Kyiv creditors.

Thus, holders of Kyiv bonds face a simple choice - to accept the suggested terms of exchange for a sovereign debt, or join the club of dissenters, which is currently represented by lonely subordinates of the Russian Ministry of Finance. I think the choice is simple.

Source: ©