Ukraine - Enterprise Development Loan

Report No. PIC1993 Project Name Ukraine-Enterprise Development... Adjustment Loan Region Europe and Central Asia Sector Enterprise Sector Project ID UAPA35814 Borrower Government of Ukraine Implementing Agency State Property Fund of Ukraine Date PID Prepared April 7, 1995 Projected Appraisal Date September, 1995 Projected Board Date December, 1995 Country and Sector Background 1. In late 1994 Ukraine embarked on an ambitious and comprehensive economic reform program. This followed the election of President Kuchma in July, 1994 and his call for a radical break from the past in economic policies. The reform program has been supported by a $350 million IMF Systemic Transformation Facility, a $997.3 million IMF standby arrangement and a $500 million World Bank Rehabilitation Loan, all approved since late 1994. The reform program includes stabilization and structural measures aimed at reducing the rate of inflation and promoting sustainable economic recovery. Specific early measures included the lifting of most price controls, unification of the exchange rate, sharp reductions in subsidies on bread and public utilities and the adjustment of energy prices to full cost recovery levels. Later measures now being supported by the Bank and IMF include further reduction of the fiscal deficit, limited growth in the money supply, continued positive real interest rates, ceilings on SOE wage bills, further price and trade liberalization, rapid implementation of mass and small-scale privatization and reform of the social safety net. 2. The mass privatization program which is at the core of the economic reforms will include the privatization of 8,000 medium and large enterprises in 1995 by public auction for registered paper certificates which are at present being distributed to the population. The methodology for mass privatization was dramatically simplified in November 1994 and a full mandate given to the State Property Fund (SPF) to implement it. In addition it is planned to privatize the majority of small enterprises in Ukraine by the end of 1995. Creation of the secondary markets that will encourage the transfer of share ownership after mass privatization is still at an early stage but rapid action is planned to ensure that mechanisms and regulations are created to ensure adequate capital markets. Objectives 3. The main objectives of the proposed Sector Adjustment Loan will be to deepen, accelerate and extend the recently initiated privatization  process, and to promote the post-privatization restructuring of enterprises and the creation of the capital markets necessary in a market economy. The loan will also provide quick disbursing balance of payments support to the economy during the transition. Secondary objectives will be to ease the disruptive transitional effects of enterprise restructuring on the population by supporting the government in providing temporary budgetary support for the social safety net in cases where enterprises wish to divest their social assets to local authorities after privatization. The promise of financial support from government for the divestment of these assets after privatization will also encourage enterprises to go through the privatization process. Description 4. The loan will provide quick disbursing funds ($290 million) in return for the implementation of policy and institutional reforms. The conditions are likely to include: - implementation of the mass privatization program of 8,000 enterprises initiated under the Rehabilitation Loan in specific identified stages - implementation of the small scale privatization initiated under the Rehabilitation Loan, - resolution of the obstacles to privatization presented by the extensive leasing of SOEs and of other methodological obstacles to rapid implementation of the program such as simplification of procedures for agro-industrial privatization, use of the new index-linked savings certificates in the privatization process, and procedures for selling shares at below nominal value in cases of undersubscription at the auctions - extension of the privatization program to include 2,000 additional medium and large enterprises (beyond the 8,000 already planned) for mass privatization and ten large enterprises for case-by-case privatization - creation of an adequate regulatory and institutional framework for capital markets, including securities and exchange commission, self-regulatory organization for market participants, and regulations for the operation of collective investment vehicles such as investment funds, stock exchanges, dealers and brokers, depositories, registrars and all other capital markets institutions, as well as rules governing investor protection, disclosure requirements for publicly floated securities and insider trading - provision of grants from the central government budget to cover the operating costs over a three year period on a reducing basis for local authorities willing to take over, both in legal and in practical and financial terms, the social assets such as clinics and kindergartens to be divested by privatized enterprises. -2-  5. A small investment component ($10 million) will provide necessary TA and equipment to the agencies responsible for implementing the programs, in particular the State Property Fund and the Ukrainian Center for Post-Privatization Support. This TA will include consulting advice on restructuring for post-privatized enterprises as well as assistance in creating a commercial enterprise data base, private sector professional associations and training programs for managers of privatised enterprises 6. All of the components are mutually supportive in their encouragement for the enterprise privatization and post-privatization restructuring processes. They will also be designed to be reinforce and be compatible with reform initiatives supported by other Bank and donor operations focussing on municipal finances and delivery systems for social services. Financing 7. The estimated cost of the adjustment operation is $300 million. Grant funds already identified in principle from other donors will finance the bulk of the TA associated with the program. Implementation 8. Implementation of the policy reforms has already begun since loan preparation began in mid-1995. The social assets and TA components are expected to begin early in 1996. The State Property Fund will be the main implementing agency and will also have general supervisory responsibility but other agencies will also be involved in implementation including local authorities and a capital markets regulatory organization yet to be created. Sustainability 9. The main objectives of the loan are to bring about an irreversible transformation in the ownership structure and management of Ukrainian enterprises, to accelerate the development of the private sector in Ukraine and to create capital markets infrastructure that will serve Ukraine indefinitely in the future. By definition these objectives are intended to bring about sustainable change. The temporary financing of social asset operations, however, is intended to be transitional. The sustainability of these social assets after the project is completed will depend on local government financial capabilities and priorities and on the extent of cost recovery applied. Lessons Learned from Past Operations in the Country/Sector 10. The experience of the Rehabilitation Loan has shown that well designed policy conditionality in the area of privatization can bring about necessary dramatic reforms that were previously unobtainable, particularly when acting closely alongside grant financed technical assistance from other donors. Very close cooperation is being and will continue to be maintained with the other donors during loan preparation and execution, especially with respect to planned TA activities. The major donors have expressed their strong support for the project -3 -  concept. Also experience has shown and is continuing to show that project preparation can be a unique opportunity to deliver hands on assistance to Government authorities in defining and dealing with operational issues in both design and implementation. Experience has also shown that Ukraine is unlikely to wish to borrow large amounts for TA and is likely to be able to mobilize substantial grant funds for this purpose. For this reason the TA component is very small and limited to critical areas. Poverty Category 11. Sections of the population vulnerable to the effects of enterprise restructuring will be directly targeted during the life of the project as beneficiaries of the financing of the local governments' operating costs of the social assets divested by the enterprises Environmental Aspects 12. The loan will have no direct environmental impact and is therefore a category C operation. Program Objective Categories 13. The proposed project strongly supports the Bank's program objective of development of a policy framework conducive to private sector development Task Manager: Bernard Drum, EC4PE (202) 473-6032 (tel) (202) 522-0005 (fax) Contact Point - Public Information Centre The World Bank 1818 H Street N.W. Washington D.C. 20433 Telephone No.: (202)458-5454 Fax No.: (202)522-1500 Note: This is information on an evolving project. Certain components may not necessarily be included in the final project. ENVIRONMENTAL DATA SHEET FOR PROJECTS in the IBRD/IDA Lending Program Project Name Ukraine-Enterprise Development Loan Appraisal Date September, 1995 Board Date December, 1995 - 4 -  Managing Division EC4PE Lending Instruments Sector Adjustment Loan Date (est) for receipt of EA by Bank N/A EA Category (A/B/C) C Project ID UAPA35814 Total Project Cost US$300 million Task Manager Bernard Drum Sector Private Sector Development Status Standby Date Assigned Date Sheet Prepared/Updated March 29, 1995 (Please do not leave any items blank: use "N/A" or "To be developed" when appropriate) Major Project Components: (presents description of project components) Policy and institutional reforms supporting enterprise privatization, post- privatization enterprise restructuring and capital markets development, divestment of social assets and TA for restructuring of enterprises after privatization. Major Environmental Issues: (describes major environmental issues identified or suspected in project) None Other Environmental Issues: (describes environmental issues of lesser scope associated with project) None Proposed Actions: (describes actions proposed to mitigate environmental issues described in project) N/A Justification/Rationale for Environmental Category: (reasons for environmental category selected & explanation of any changes from initial classification) No environmental risks Status of Category A Environmental Assessment: (presents EA start-up date, EA first draft, and current status) N/A Remarks: (gives status of any other environmental studies, lists local groups and local NGOs consulted, tells whether borrower has given - 5-  permission to release EA, etc) N/A Signed by: Paul J. Siegelbaum, Chief, EC4PE Signed by: Seth (EMTEN), Regional Environment Division Chief - 6 -