• Serhiy Piontkovsky

    Managing Partner, Baker McKenzie

  • Oleksandr Kez

    Associate, Baker McKenzie

Baker McKenzie

Address: Renaissance Business Center
24 Bulvarno-Kudriavska Street,
Kyiv, 01601, Ukraine
Tel.: +380 44 590 0101
E-mail: kyiv@bakermckenzie.com
Web-site: www.bakermckenzie.com/ukraine

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New Page in History of Ukrainian Privatization: Law No. 2269

7 March, 2018 signified the beginning of a new era in privatization in Ukraine as the new Law of Ukraine On Privatization of State and Municipal Property 

No.2269-VIII of 18 January, 2018 (the Law) came into effect. The Law is, without a doubt, the most comprehensive reform of the privatization system since 1992. It was developed with significant support from international financial institutions like the European Bank for Reconstruction and Development, as well as legal and technical experts, with significant input from the Ministry of Economic Development and Trade of Ukraine. Such special attention only proves the important role this reform plays in Ukraine’s economic growth. In short, the Law simplifies and clarifies the procedures applicable to the sale of state and municipal property and speeds up the overall process from the transfer of assets to the privatization authorities, to post-privatization control and supervision.

The first conceptual novelty is that instead of having six interrelated groups of assets with different sale methods applicable to each of them, privatization assets are now divided into two groups — large privatization assets (LPAs) and small privatization assets (SPAs). LPAs are shares in joint-stock companies and key assets of companies, the asset value of which exceeds UAH 250 million and where the state owns 50% of the shares or more. All other assets fall into the SPA category. Notably, the Law establishes a new principle pursuant to which all assets that are not prohibited from privatization can be sold. From a buyer’s perspective, this means that any asset not prohibited from privatization by virtue of the Law can be sold. For example, at the buyer’s initiative, regardless of whether it is listed as an LPA or SPA.

As for the qualification criteria for buyers for the purposes of privatization, the Law introduces a rule pursuant to which a person who used to be a party to a privatization agreement, which was later terminated as a result of this person’s violations, cannot qualify as a buyer. Furthermore, the Law explicitly provides that persons under the national sanctions regime, as well as Ukrainian legal entities, whose beneficial owners have not been disclosed in breach of applicable law, shall be prohibited from participating in the sale of privatization assets. Interestingly, if the winner of the auction refuses to sign the sale and purchase agreement in respect of an LPA or SPA, the winner and its end beneficiary will not be allowed to participate in any future auction for the sale of such an asset. This approach allows the Government to cut off disreputable investors and requires buyers to think more carefully when selecting a partner for a privatization project.

The Law strengthens the control of buyers over the financing of privatization deals. The buyer attracting the financing to purchase a privatization asset must now provide information on its creditor, who must meet the requirements of buyers of privatization assets as stipulated in the Law.

Sale of Large Privatization Assets

Regarding sale of LPAs, the Law reduces the risks associated with determining the starting price. From now on, the price will be determined by a professional adviser engaged by the privatization authority. This may eliminate the conceptual conflict that used to be embedded in the law when the starting price was determined by a valuation, which should have reflected the fair market value of the asset though, in principle, the fair market value would be determined as a result of the auction. However, this only applies where an investment adviser is engaged, since, if the Cabinet of Ministers decides not to involve an adviser, the starting price would still be determined by the privatization authority based on the results of an independent valuation.

As for the actual sale process, the default option is an “English” auction with at least two bidders. However, if only one bidder qualifies, the LPA may be sold directly to that buyer at a price not less than the starting price. If the LPA is not sold by an auction or direct buy-out, the sale shall be made via auction where the starting price should be determined by indicative bidding with the bid secured by the auction deposit (either in cash or as a bank guarantee).

The Law expressly provides for cases when an LPA can be sold at a 25% or 50% reduction on the starting price through an English auction. However, it is not entirely clear when the privatization authorities should announce the indicative bidding action. That is, immediately after the very first auction when the LPA was not sold, or after two failed auctions when the starting price was decreased by 25% and 50%, respectively. These tools give a certain degree of flexibility for the privatization authorities, allowing them to choose the appropriate sale method to each particular asset depending on its individual characteristics.

Furthermore, the Law allows the privatization agreement to be governed by the laws of England and Wales at the buyer’s request. However, this option is only available until 2021 if the Ukrainian Parliament does not extend it in the future. Although the extent of the applicability of English law to privatization agreements is still to be determined on a case-by-case basis, potential buyers may view the mere possibility of incorporating a set of warranties and indemnities into a privatization agreement as an attractive option.

The key point is in the new law. The Law is an issue of protection of buyers’ rights.
The provisions governing the content of a privatization agreement, even if governed by Ukrainian law, may include a set of warranties of the seller as to information on the LPA, and the respective liability for breaching them. Furthermore, after a privatization agreement has been signed, the target company will not conclude any agreements that are beyond its ordinary course of business without the buyer’s prior consent, e.g., asset pledge, set-off, suretyship.

Given that many state or municipal enterprises have a significant amount of (typically simulated) debt, the Law introduces an important protection mechanism: no bankruptcy proceedings will be brought within one year following completion of a privatization deal, against a privatized company based on grounds that relate to a period prior to the deal’s completion. On top of that, once a privatization agreement has been signed, no changes to the custody account relating to arrest or placement of other encumbrances shall be made until the title to the LPA passes to the buyer. These protection measures would enable buyers to directly control any cash-out from the target company after the sale and purchase agreement has been signed and to increase the overall attractiveness of the asset.

Sale of Small Privatization Assets

With regard to the privatization of SPAs, the key novelty is the mandatory sale of SPAs via an electronic auction system. The privatization authorities, acting as auctioneers, would conclude the agreements via e-platforms that are functionally capable of holding privatization auctions. All of the processes relating to submission and acceptance of bids as well as determining the winner of the e-auction would be automated and would not require the involvement of the privatization authorities until the binding sale and purchase agreement is being executed.

In terms of the auction process, the default scenario would be an English auction with at least two bidders, and if there is only one bid submitted in respect of an SPA the asset will be sold directly to that bidder. If the SPA is not sold, the starting price for the asset shall be reduced by 50%. If the SPA still does not sell, the starting price shall be reduced again by 50% and the asset shall be sold at a Dutch auction.

To some extent, the protection of buyers rights also applies to the sale of SPAs. Prohibition of bankruptcy within one year following completion of the deal, as well as placement of an encumbrance over the shares, remain current for the sale of SPAs.

Once all the major by-laws are approved by the Government, all the tools provided by the Law should positively affect the privatization process and complete the long-awaited ’sale’ of state and municipal assets.