Ukraine war hits economy hard

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Copy of IOL BR_UKRAINE-CRISIS-_0807_11~1 Reuters. Boys play a game of war in the eastern town of Kramatorsk on Thursday. As the Ukraine enters a ninth month of war and political turbulence, executives across the country are struggling to keep their companies afloat as capital from abroad dries up. Photo: Reuters.

In November, Ukrainian Trade Guild (UTG) Consulting fielded calls from retailers including Abercrombie & Fitch and Japan’s Uniqlo about leasing space before this year’s opening of the country’s biggest shopping mall.

Then came protests, the street violence and Ukrainian President Viktor Yanukovych’s ouster.

By January, UTG’s phones stopped ringing.

Now, as deadly battles rage in the east, the 30-hectare Respublika concept, planned to include eastern Europe’s largest entertainment complex on Kiev’s busiest road, sits unfinished behind sagging chain-link and wooden fences, the project abandoned by foreign investors.

“Investors are simply afraid and they’re asking how safe it is,” UTG managing partner Vitaliy Boyko said in an August 1 interview at the developer’s headquarters.

“We explain that it’s very safe in Kiev, but they still keep cancelling meetings.”

As the former Soviet republic enters a ninth month of war and political turbulence, executives across the country of 43 million people are struggling to keep their companies afloat as capital from abroad dries up, markets sink, sanctions against Russia threaten to spill over the embattled border and the country remains Europe’s riskiest place to do business.

The government in Kiev, about 600 kilometres from the conflict in the east, is already saddled with a legacy of corruption and cronyism and mired in the deepest recession on the continent.

The effect of the contraction is spreading across society, damping retail and real estate sales, as well as construction and infrastructure upgrades, a staple of industrial growth.

“The war is demolishing the domestic market,” Alexander Valchyshen, the head of research at Investment Capital Ukraine, said on Tuesday.

“In other words, sectors that cater to domestic consumers, including businesses, are suffering the most.”

Investors pulling money out of Ukraine sent its sovereign and company bonds tumbling 4.4 percent this month through Wednesday, the worst loss for the period among 77 nations tracked by the Bloomberg dollar emerging market composite bond index.

The yield on the nation’s July 2017 dollar notes rose 34 basis points on Thursday to 10.83 percent, the highest in 11 weeks.

The hryvnia, the second-worst performing currency this year, depreciated as much as 2.6 percent on Thursday to 12.68 per dollar, its weakest intraday level in almost four months.

The country’s economy shrank 4.7 percent in the second quarter from a year ago, the biggest contraction since 2009. Gross domestic product (GDP) will drop by 6.5 percent this year, according to government and International Monetary Fund (IMF) forecasts.

At the same time, industrial output fell 5 percent in June from a year ago, led by machine building and chemical production.

From steelmakers, such as billionaire Rinat Akhmetov’s Metinvest, to food producers such as Ukrlandfarming, the country’s largest agricultural company, industrial companies are taking the brunt of the conflict and EU sanctions against Russia, according to analysts including Elena Bilan at Kiev-based Dragon Capital.

Metinvest chief executive Yuriy Ryzhenkov said one of the biggest risks for the company was a mass exodus of its workers, especially from unsettled areas. More than 1 000 employees from the 14 000-strong workforce at Metinvest’s Krasnodonvugillya plant had quit, while the Avdiyivsky coke-producing plant was running at one-third capacity, he said.

DMK Dzerzhinsky, part of the Industrial Union of Donbass, said on Wednesday that it only had one furnace operating out of three because the railway line for coke-coal delivery was mined with explosives.

As heavy industry feels the pain, the retail sector is the most visibly hit, with shopping centres devoid of customers across Kiev and international retailers, including Marks & Spencer and Gap, either cutting back on outlets or shutting up shop.

Retail sales rose 0.8 percent in the first six months, compared with growth of 11.1 percent in the same period last year, according to the state statistics office.

Since January 1, retail sales in three of Ukraine’s 24 regions have dropped, conflict-stricken Donetsk and the Luhansk region among them.

“The slowdown in retail is quite sharp and pronounced”, with across-the-board declines expected in the second half, Elena Bilan, an economist at Kiev-based Dragon Capital, said.

“There needs to be an inflow of direct foreign investments to boost production.”

Instead, most investors were gone, said Steffen Gruschka, the chief investment officer at SG Alpha fund that has $20 million (R215m) under management.

The few that remain were simply waiting it out for eventual reforms and the country’s move toward a more European-style framework, he said.

Warsaw-traded Ukrainian stocks have fallen for seven sessions, sending the WIG-Ukraine index to 295.80 points on Thursday, the lowest since January 2011, according to data.

Without the military conflict in the country’s east, “the market certainly would be higher”, Gruschka said.

The flip side was that “the more country has to fight, the easier it will become to carry out painful reforms because politicians will be forced to do the right thing”, he said.

Meantime, consumption would decline in all industries that focused on domestic consumption, such as food, clothing and appliance, Bilan said.

That, in turn, would hurt companies such as DTEK Holding, the country’s largest utility.

Some of DTEK’s mines had temporarily halted coal extraction because they were too close to the fighting, the company’s chief financial officer, Vsevolod Starukhin, said on Wednesday.

The company’s Luhansk thermal power station was unable to operate at full capacity after a railroad bridge used to deliver coal was destroyed, Starukhin said.

Clients of computer services company Luxoft Holding urged management to move their operations out of Ukraine and Russia, chief executive Dmitry Loschinin said in May.

He didn’t name the clients.

Ukraine’s leadership “forced business to play by its rules for years and it’s going to take more than a year to overcome the existing system of corruption”, Daniil Vladov, the head of DCH Real Estate, said.

The winter demonstrations that led to Yanukovych’s government collapse were sparked in part by a grassroots effort to end corruption in administrative offices.

The government had been unable to change that perception, leaving investors unwilling to spend money on Ukrainian assets, Dmitry Sennychenko, the head of JLL’s Kiev office, said.

“The transparency of the market and predictability are things so far not associated with Ukraine,” he said.

“Implementation of reforms in economic policy has been talked about a lot and now needs to be done.”

In a suburb of south Kiev, work has ground to a halt at Respublika, a complex of 450 shops, 50 restaurants and an entertainment centre with eastern Europe’s largest indoor rollercoaster.

The plan also includes apartments for the country’s growing middle class.

Respublika’s signature facade towers over piles of earth and weedy clumps where the parking lot is meant to be. Around the premises, devoid of workers on Monday, a wooden fence topped with barbed-wire bars the entrance and a watchman sits alone in a wooden shack.

Nevertheless, Boyko is optimistic that the project will go ahead later this year.

“We’re actively working on getting new brands to enter Ukraine’s market,” he said. “But at this moment we can’t win them over.” – Kateryna Choursina, Daryna Krasnolutska and James M. Gomez for Bloomberg



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