Graham Stack in Berlin -

Rinat Akhmetov

Dniproenergo stock went into a tailspin after the Ukrainian utility announced on June 18 a share dilution in favour of the company's biggest shareholder, Rinat Akhmetov. A return to the bad old days, when Leonid Kuchma was president? This time round things might not be as dark as they seem.

On Monday, June 19, the government gave the go ahead for Dniproenergo, 76% of which is held by the state, to increase its share capital by 52.1% through an additional issue of 2.04m shares. The shock announcement promptly caused Dniproenergo stock to dive by 16.6%. Share prices for other Ukrainian energy companies also lurched downwards.

Dilutions were common during the Kuchma-era where business was marred by crony capitalism. The emission dilutes the state’s stake to 50% in favour of the Dnipro Fuel and Energy Company (DTEK) holding owned by System Capital Management, which is controlled by Ukraine's richest oligarch Rinat Akhmetov, who is also the force behind the governing Party of the Regions.

The market assumed the worst. The announcement came almost a year to the day after minority shareholders in Zaporizhstal, a major Ukrainian steel mill, had seen their stakes washed away by a similarly controversial share issue, which also involved Akhmetov.

But as the week worn on and analysts chewed over the numbers, the share price did a U-turn and won back much of the ground lost. It seems that there were some good reasons for the issue after all.

Legal loophole

"Technically, this is all legal," says Sokrat Capital's Constantine Lisnychyy. "Dniproenergo is on the verge of insolvency; DTEK is one of its largest creditors. This allows for the creditors’ committee to order an emission of shares in the context of a merger."

The deal is less of a backdoor takeover using an administrative mechanism, than an equity-for-debt swap organised by a government that is trying to recover some of the millions it used to bail out power companies in the 1990s.

DTEK, a coal-mining holding, held $208m worth of Dniproenergo debt. The entire amount was to be exchanged for a 100% stake in a company with a charter capital of $208m, created from coal-mines affiliated with DTEK. This procedure makes it legal to bar Dnipromenergo shareholders from subscribing to the share issue.

"You could call it a legal loophole," says Alexander Paraschyi of Concord Capital, describing this complex procedure. It has been used in the past and – despite Deputy Prime Minster Andrei Kluyev's assurance that this is a unique case – it could be used again in the future.

During the non-payment epidemic of the 1990s, a large number of power companies have been left encumbered with huge debts, often to the State Reserve that supplied them with fuel as a last resort. The state is now selling its claims against the energos at a discount in an effort to recoup some of the cash it sunk into bailing these companies out. Next, on the line could be Centrenergo, which is also only a step away from filing for bankruptcy.

However, the deal is not clear-cut and there are many in the government that think the deal is simply a shady takeover of state assets by a politically well-connect oligarch. Lisnychyy calls this "a backdoor to privatisation."

"The state is the biggest loser in all this," says Lisnychyy, because it gets nothing in exchange for its stake shrinking to 50%. That the state is happy to part with its property for peanuts aroused vehement opposition from, among others, the State Property Fund head Valentyna Semenyuk.

"The share of the state should be preserved. Heaven forbid it should be decreased," she declared on Wednesday. But the deal went ahead anyway, testimony to the political clout of its backers.

What ever the rights and wrongs of the case, bottom line is DTEK emerges as the biggest winner. The company increasing its stake in Dniproenergo by 31.3% for $408m -- a 20% discount to the current market price -- resolving its outstanding claims against Dniproenergo at the same time.

What is surprising (and new when compared to oligarch's methods in the 1990s) is that, although DTEK has not yet stated its terms for minority shareholders, many analysts already rank them among the winners along with the company.

"The problem in the energy sector," says Lisnychyy, "is not private companies, but corrupt and inefficient state ownership."

Analysts agree that even if the state has cut a bad deal, the deal is good for Dniproenergo. The company's debt is gone; its finances have effectively been completely restructured; it has gained $200m of capital investment; and the value of the company has increased by $400m, which paves the way for additional borrowing. Finally, for all their faults, Akhmetov and his team at DTEK are all extremely competent managers, which is more than can be said for the state.

"You have to understand that Dniproenergo was a company on the verge of bankruptcy, with huge debts preventing it from taking out any loans for capex," explains Paraschyi. "Because of this, there is no doubt in my mind that the emission will benefit minority shareholders in the long and medium term. But I also expect that the positive expectations generated by the merger will offset even the short-term dilution effects arising from minority shareholders being not being excluded from the emission."

Paraschiy met with Dniproenergo management this week to get the company's reaction to the deal that results in the promise of $200m of capex in the near future.

"They can't even imagine what such an enormous sum could be directed towards. They were amazed. The fact is that this deal is really value-creating for the company," says Paraschiy.

Send comments to The Editor