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A Key Test in Ukraine

By Jason Bush At 11 a.m. on Oct. 24, officials at the Ukrainian State Property Fund in Kiev will open three envelopes to decide the winning bidder for a 93% stake in Kryvorizhstal, the largest steel plant in the country. The sale is a key test of President Viktor Yushchenko's resolve to clean up Ukraine's murky business practices and open the country to much-needed foreign investment.

With annual production of 7 million tons of crude steel -- 20% of all Ukrainian steel production -- and 2004 earnings of $400 million, Kryvorizhstal is one of the largest and most profitable enterprises in the country. And the steel mill has become an important political symbol: A transparent privatization was a key election pledge made by Yushchenko during last year's turbulent election campaign.

OBVIOUSLY RIGGED. Kryvorizhstal became notorious because of the way in which it was first privatized in June of last year. Two local tycoons, Viktor Pinchuk and Rinat Akhmetov, acquired the plant for $800 million -- a sum much lower than potential bids from well-known international companies participating in the tender.

The largest offer, by LNM Holdings and US Steel (X), came to $1.5 billion. Yet all the foreign bidders were disqualified on an absurd technicality, sparking an uproar. The tender had obviously been rigged to exclude foreigners and favor local businesspeople allied to then-President Leonid Kuchma.

In February, following Yushchenko's election, a Ukrainian court annulled the original deal, paving the way for a second one this year. This time, Yushchenko has promised no monkey business. The starting price is $2 billion, and analysts believe the plant may go for close to $3 billion.

GOOD PRICE.That will make the sale of Kryvorizhstal the largest privatization ever seen in the former Soviet Union in terms of cash raised -- a stark contrast to the days when valuable state assets in Ukraine typically went for a song in dubious insider deals (see BW, 11/8/2004, "Will the Boom Last in Ukraine?").

Another crucial difference this time is that the bidding is open to foreign investors. The three final bidders include the world's largest steelmaker, Rotterdam-based Mittal Steel (MT); the largest European steelmaker, Arcelor, based in France (bidding in conjunction with Ukraine's Industrial Union of Donbas); and Smart Group, a Ukrainian company representing Russian interests (see BW, 3/7/05, "Steel: The Mergers Aren't Over Yet").

The suitors should be happy to fork out a good price. "It's one of the last big steel mills to go for sale in Central and Eastern Europe, and it would be a strategic acquisition for any of them," says Andriy Dmitrenko, an analyst at Kiev brokerage Dragon Capital.

NO EASY MATTER. Rob Edwards, a metals analyst at Renaissance Capital in Moscow, also says the plant is a good buy: "Ukraine has inherently low costs, so for that reason it's attractive for a major. And it's well-positioned for exports to the Commonwealth of Independent States [most nations of the former Soviet Union] and Middle East markets". Analysts tip Arcelor as the favorite to win, though Mittal is also expected to bid high.

Whoever wins, a fair sale to a foreign investor will be a coup for Yushchenko in his efforts to attract investment. The money raised will be as much as all the rest of Ukraine's foreign direct investment put together. And getting this far has been no easy matter.

Even after Yushchenko's election last December, the reprivatization of Kryvorizhstal has been fraught with difficulties. The existing owners have lobbied hard to keep their property and tried to halt the sale with lawsuits. Opposition to a new deal has also come from left-wingers, who oppose privatization in principle.

LOST LUSTER. Just a few days before the auction, the Ukrainian Parliament passed a resolution calling for it to be halted. The resolution is nonbinding, however, and Yushchenko has in any case vowed to use his presidential powers to make sure the deal goes ahead as planned.

A successful sale will be important, because it comes at a time when Yushchenko's Orange Revolution has lost much of its luster. Last month the President sacked his Prime Minister and former close ally, Yulia Tymoshenko, dramatically exposing political tensions which explain why reform progress has been much slower than many had hoped (see BW, 9/9/05, T"In the Ukraine, Freedom's Bitter Fruit.").

"It's going to be the first test of the government's determination to plow through all the political noise and come out with a result that's obviously positive for the investment climate," says Edwards from Renaissance Capital.

That's why when Kryvorizhstal goes under the hammer for the second time, it's not just Ukrainians who will be eagerly watching the result.

Bush is BusinessWeek's Moscow correspondent

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