There’s a lot of talk around due diligence — how it can save foreign investors from compliance headaches, and how it can help Ukrainian firms tackle internal problems.
But it seems that due diligence, as it exists in Ukraine, does little more than identify the current problems in the country’s businesses.
According to interviews with auditors, lawyers, and analysts, most due diligence performed on behalf of Ukrainian companies does little more than come up with a thick report of problems with suggested improvements, which are then left to gather dust without any action being taken.
In spite of that, the world’s four big auditors, as well as a number of law firms, maintain a thriving business in the practice. They perform due diligence on behalf of Western investors that never invest, and for Ukrainian companies that either lack the means or the will to change.
Audit plaudits
The Ukrainian government has made attempts to review state-owned enterprises as part of a larger bid to conduct due diligence and determine problems in the state sector.
The Ukrainian government owns more than 3,300 enterprises. The top 100 account for 90 percent of assets and are worth Hr 926 billion ($37 billion). By comparison, neighboring Poland has 326 state-owned companies, worth more than $60 billion.
In June 2015, a government decree mandated that the biggest 45 state-owned enterprises undergo audits by big accounting firms. Only international auditors that met newly introduced expertise requirements could provide the service, which has been a novelty for most state-owned enterprises.
Prior to the new regulation, the companies had audits at Ukrainian domestic accounting firms, which were much cheaper, but also less trustworthy from the perspective of possible foreign investors.
As of July 20, a total of 18 out of the 45 largest SOEs had completed their audits, and 14 remain in the process of carrying them out, according to the Economy Ministry. Two companies, state exporter and importer of military products and services monopoly Ukrspetsexport and chemical fertilizers producer Sumykhimprom, underwent audits with firms that did not meet the government’s requirements.
So far 91 percent of assets of the top 45 state-owned enterprises have undergone international audits, according to Roman Ilto, an expert at the task force for reform of state-owned enterprises.
An auditor’s report shows whether a company’s management maintains bookkeeping standards and how adequate the information it provides to its key shareholders is, both to the state, and to Ukrainian citizens.
If any problems are detected, the respective government body or supervisory board at the SOE and its management must then find out “why this problem appeared and give instructions to eliminate it,” Ilto told the Kyiv Post. “Or raise the question of whether the director is fulfilling the terms of his (employment) contract.”
But he also added that the discussions could only be held at the end of this year. So far, the task force for state-owned assets reform sees its mission as introducing the audits as a management tool for building a reliable base of comparison for the future.
As of July, none of the audited SOEs has yet received the highest mark. Most get a qualified opinion from the auditors, which means that there are problems with the adequacy of the financial reports. Some receive a disclaimer, which means the accounts could not be verified for some reason.
Odesa Portside failure
Due diligence failed to save the privatization of the Odesa Portside Plant as well, for example.
The state-owned ammonia producer had a starting price of $521 million, not factoring in an additional $193 million debt owed to gas oligarch Dmytro Firtash that any buyer would acquire with the purchase. Moreover, Privat group owner Igor Kolomoisky has sued the government over a claim that the plant belongs to him after an abortive 2009 takeover bid.
The tender itself came with unusual conditions, including a requirement to buy a $13 million bond with the bid that would not be returned if a list of vague conditions was not met.
But all of these issues were foreseen. The Odesa Portside Plant was audited by EY and performed due diligence on itself, but after that not a single investor bid on the plan by a July 18 deadline.
“We were expecting that the new management of the State Property Fund would do something new and more effective,” said Alexander Paraschiy, head of research at Concorde Capital. “For me, it looked certain that the tender would fail.”
Zoryana Sozanska, an attorney at Redcliffe Partners who conducted due diligence on the plant for a potential Western investor, said that getting access to reliable information on state-owned enterprises was particularly difficult.
“There can be some cultural clashes with the government, where you have people who worked with the government for years, and they just don’t quite grasp what due diligence is, and why it’s done,” she said. “But for the government it’s even more difficult, so getting access to proper reliable information is probably the challenge.”
