Ukraine has already secured crucial support from key official creditors, leading private bondholders and the US Treasury for a proposal to defer payments on its Eurobonds.
The public backing for the sovereign's request stands in contrast to state-owned Naftogaz's debt standstill offer to its bondholders.
Although Ukraine's government had previously expressed its commitment to servicing its debt, it was widely expected that the sovereign would request a payments freeze given how much its finances are under pressure because of the war with Russia. Its FX reserves are fast-depleting and stand at just US$22.8bn. Disbursements of just US$12.7bn from Western governments and international financial institutions since the war began also fall well short of Ukraine's immediate needs.
Its consent solicitation offer covering nearly US$20bn in face value of foreign-currency bonds was announced on Wednesday, just over a week after Naftogaz had launched its own proposal seeking to postpone its Eurobond payments, including a US$335m note that was due to mature on July 19.
While that bond maturity and a coupon payment due on another note, its €600m July 2024s, on the same date explain why Naftogaz proceeded with its offer ahead of the sovereign, there are crucial differences between the two proposals that suggest differences in strategy, and possible tension, between the government and the gas company.
An analyst said it would have suited bondholders better if Naftogaz had offered "the same terms as the sovereign". Pointedly, Ukraine's announcement also said it expected "in the near future" two other state-owned companies, public road agency Ukravtodor, and utility Ukrenergo, to launch consent solicitations on their external public debt on "substantially similar terms" to its own offer. Ukravtodor's and Ukrenergo's bonds are sovereign guaranteed, whereas Naftogaz's are not. The analyst said, though, the sovereign could have provided a guarantee on Naftogaz's bonds.
One emerging markets investor described the entire process as "higgledy-piggledy", especially in light of the fact that Ukraine's state-owned entities, including Ukravtodor and Ukrenergo, had recently serviced their debt.
While the outcome of neither the sovereign's nor Naftogaz's proposal is yet known, Ukraine's path to acceptance looks much smoother.
Two-year pause
Ukraine's offer, launched via JP Morgan, seeks to defer payments on its US dollar and euro-denominated bonds for 24 months from August 1. It is promising to pay the interest accrued at the end of the two years. It also wants to delay payments on its US$3.2bn GDP-linked warrants due on May 31 2023 to August 1 2024 and lower the amount of GDP-related repayments. The offer also includes an option that, subject to certain criteria, would allow Ukraine to buy back the warrants at their nominal value, potentially capping any upside. Ukraine would be able to trigger the option between August 1 2024 and July 30 2027 at its own discretion. Ukraine will pay accrued interest and a consent fee on the GDP warrants proposal.
"The proposal envisages a voluntary reprofiling, stipulating that should investors disagree with the proposal the government will continue to service the debt as specified in the contracts," said Evghenia Sleptsova, a senior EM economist at Oxford Economics.
Critically, though, Ukraine said it had discussed its intentions with major holders of its debt before making the official announcement.
"We are seeking to achieve these objectives [of preserving liquidity] in a market-friendly way by seeking a consensual solution with investors," said Ukraine's minister of finance, Sergii Marchenko, in a statement.
"It is important for us to create the conditions for Ukraine to regain access to international financial markets in the shortest possible time after the victory on the battlefield. Such early market access will be critical to funding reconstruction projects for the country after the war."
Private sector bondholders, such as BlackRock and Fidelity, have shown their public support for the offer, with many more investors wall-crossed. "Most investors are likely to accept it – Ukraine needs two-thirds of bondholders to agree for the plan to be considered voluntary reprofiling," said Sleptsova. She was more sceptical about the GDP-linked securities, though, where Ukraine needs to reach a threshold of 75% of holders.
Most governments in the G7 have also given their approval to Ukraine's offer while official bilateral lenders including the US, UK, Germany and France have also agreed to a suspension in payments due to them until at least the end of 2023.
Out of the blue
The consensual approach to encompass a broad church of stakeholders before launching the consent stands in contrast to Naftogaz after it caught some off-guard with its request via Citigroup to defer its Eurobond payments for two years. Its offer, which it announced on July 12, is also less attractive to investors in that there will be no accrued interest paid after the end of the standstill, nor is there a consent fee.
A group of bondholders, advised by law firm Dechert, has already said that it would reject Naftogaz's offer.
"A concern of bondholders was communications, as this happened out of the blue after the company said it was committed to making payments. Bondholders are less surprised on the sovereign," said Stuart Culverhouse, head of sovereign and fixed income research at Tellimer.
The voting deadline for Naftogaz's consent expired on Thursday, with a bondholder meeting set for July 26. Ukraine's vote on the warrants closes on August 5 and on the Eurobonds on August 9.
Even if Ukraine's offer passes, it will only provide "a temporary reprieve", saving Ukraine about US$6bn over the next two years, said Sleptsova. Ukraine's fiscal shortfall is running at about US$5bn a month.
Most investors think an eventual restructuring is inevitable – though with the war continuing, no realistic analysis is possible. "We genuinely think Ukraine sovereign bonds offer good value, we have liked the warrants, but the central scenario for us is that they will need to be included in the restructure," said Phil Torres, senior portfolio manager, emerging markets debt strategies at Aegon Asset Management.
"A horrible atrocity was committed upon on them which has been costly in lives and money. It is incumbent on the West to use Russia central bank reserves to pay for that as well as a restructuring of debt. But any restructuring needs to be sensible, not a gift from our clients, but with a debt sustainability analysis in mind."
Additional reporting by Christopher Spink
