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By Daryna Krasnolutska and Halia Pavliva, Bloomberg, NY, NY, Thu, Sep 24, 2009
This isn't a case of 'can't pay', but 'won't pay'.
Analysis & Commentary: By Alexander Smith
Reuters, London, UK, Friday, Sep 25, 2009

Interfax Ukraine, Kyiv, Ukraine, Saturday, September 26, 2009

Analysis & Commentary: Timothy Ash, RBS GBM
RBSMarketplace, Local Markets Strategy, LM Update
Royal Bank of Scotland, London, UK, Tuesday, Sep 22, 2009

Analysis and Commentary: By Timothy Ash, RBS GBM 
RBSMarketplace, Local Markets Strategy, LM Alert, CEEMEA
Royal Bank of Scotland, London, UK, Thursday, September 24, 2009

Interfax Ukraine, Kyiv, Ukraine, Fri, September 25, 2009

Interfax Ukraine, Kyiv, Ukraine, Thursday, September 24, 2009

Interfax Ukraine, Kyiv, Ukraine, Fri, September 25, 2009

By Daryna Krasnolutska and Halia Pavliva, Bloomberg, NY, NY, Thu, Sep 24, 2009

KIEV -  Ukrainian state-run energy company NAK Naftogaz Ukrainy is seeking to avert default on $500 million of Eurobonds due this month by offering
five-year securities in exchange.

The bonds due 2014 will pay annual interest at 9.5 percent and have an “unconditional and irrevocable sovereign guarantee,” according to a company
statement today. The interest rate offered is below the 11 percent yield on Ukraine government bonds maturing a year earlier in June 2013.

“The terms are far from being attractive for investors,” said Yury Tulinov, an analyst at Trust Investment Bank in Moscow. “This is hardly sufficient
compensation for country and company risks.”

Ukraine got a $16.4 billion International Monetary Fund bailout package last year to avoid defaulting on its debt and to stabilize its banking industry.
Naftogaz, which operates the pipeline network that ships gas to Europe from Russia, has a 33 billion-hryvnia ($3.9 billion) budget deficit, President
Viktor Yushchenko said in an interview in Kiev last week.

Yushchenko says Naftogaz lacks finances to repay its debt in part because it was unable to negotiate higher tariffs for Russian gas shipments to Europe.
Russia and Ukraine signed 10- year natural-gas contracts in January, ending a dispute that shut off supplies to the European Union for almost two weeks.

Under the pact, Ukraine gets less for gas shipments than any other European country, according to Yushchenko.

The government told Naftogaz to complete talks with investors and creditors by Oct. 20, the Cabinet said in a decree published Sept. 22. It also agreed
to provide the Kiev-based company with a $2 billion debt guarantee, the Cabinet said.

“The sovereign guarantee is the minimum which would be expected,” Timothy Ash, chief of Europe, Middle East and Africa research at Royal Bank of
Scotland Plc in London, wrote in an e- mail. “It is still unclear how the bondholder groups will respond to this.”

Bondholders owning $100 million, or 20 percent, of Naftogaz Eurobonds may block plans to restructure the debt, Interfax reported on Aug. 27, citing
Carl Philipp R. Thomas, a lawyer representing the investors.

The company’s $500 million of 8.175 percent notes due Sept. 30 fell 0.14 percent to 86.50 cents on the dollar, extending a 1.5 percent decline yesterday, Bloomberg data show. The debt traded for as little as 35 cents on the dollar on Dec. 5.

Fitch Ratings yesterday downgraded the bonds to C, one step above default level, from CC, saying it was unlikely the Eurobond would be repaid on its
maturity date.

“It may be less than some bondholders wanted, but it is much better than they might have feared,” said Richard Deitz, president of VR Capital Group
in Moscow, which owns about $20 million of Naftogaz bonds. “The sovereign guarantee shows the good will of the Ukrainian government to have a
successful resolution. I don’t see any viable holdout strategy in the face of this offer.”

Ukraine is confident that a minimum 75 percent of NAK Naftogaz Ukrainy bondholders will agree to the restructuring, acting Finance Minister Ihor
Umanskyi told reporters in Kiev on Aug. 31.

Naftogaz has also started negotiations to restructure its $1.1 billion debt to foreign banks, according to its Web site. It’s seeking a $300 million loan from the European Bank for Reconstruction and Development for purchases of Russian natural gas for this winter.

“Fears of technical default persist,” Luis Costa, emerging-market debt strategist at Commerzbank AG in London, wrote today in a client note. “That
might well be decided next week through a credit event determination committee.”

NOTE: To contact the reporter on this story: Daryna Krasnolutska in Kiev at dkrasnolutsk@bloomberg.net; Halia Pavliva in New York at
hpavliva@bloomberg.net; Kateryna Choursina in Kiev at kchoursina@bloomberg.net.

LINK: http://www.bloomberg.com/apps/news?pid=20601085&sid=aGXsNDUN3nY4
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This isn't a case of 'can't pay', but 'won't pay'.

Analysis & Commentary: By Alexander Smith
Reuters, London, UK, Friday, Sep 25, 2009

LONDON - Ukraine is playing hardball over a maturing $500 million Eurobond from energy group Naftogaz, offering investors a new state-guaranteed bond rather than returning their cash when it is due next week.

This isn't a case of 'can't pay', but 'won't pay'. In fact, Ukraine has just been given $3.3 billion by the International Monetary Fund earmarked specifically for external debt payments.

Ukraine has chosen to ignore this and is instead forcing through a restructuring of the Naftogaz bonds. The IMF has sanctioned extending the maturity of the bonds as long as it was something bondholders wanted -- though it is hard to see why they would.

Bondholders now face a stark choice. Their bonds were due to be repaid in full next week. Instead they are being offered a bond swap with an increased coupon -- 9.5 percent compared with 8.125 percent on the old bond -- and a government guarantee.

This won't be enough to erase the discount at which the bonds currently trade: the new bonds are expected to trade at around 92 cents on the dollar, compared with around 89 cents today. Bondholders will have to wait another five years if they want their money back in full.

The swap will be binding if approved by 75 percent of bondholders voting at a meeting later in October. But those bondholders who do not sign up to the one-for-one exchange by an October 8 deadline will still have their bonds swapped, but at a 5 per cent discount.

Of course, bondholders could choose to reject the offer. But Naftogaz has the right to call a second vote at which it would require fewer votes. And even if they won, bondholders would then face the prospect of a court battle to recover their money.

In theory, bondholders should reject the Naftogaz offer. In practice, they are unlikely to do so. Only the IMF has the ability to twist Ukraine's arm: the country is surviving thanks to its $16.4 billion bailout. Of all institutions, it should make sure that Ukraine is held accountable to its lenders.

NOTE: At the time of publication Alexander Smith did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund -- alex.smith@thomsonreuters.com; +44 207 542 8983; Reuters Messaging: alex.smith.reuters.com@reuters.net.

LINK: http://www.forbes.com/feeds/afx/2009/09/25/afx6932425.html
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Interfax Ukraine, Kyiv, Ukraine, Saturday, September 26, 2009

KYIV - Ukrainian Premier Yulia Tymoshenko has said that debt of National JSC Naftogaz Ukrainy for LPNs worth $1.7 b would be restructured, she said on the ICTV channel late on Friday.

Tymoshenko said that before crisis, Naftogaz Ukrainy borrowed $1.7 billion and "when Ukraine faces the downturn, they start demanding to return the debt."
"I would say that we would never allow default, and we'll restructure the debt, and the country would never have such debts," she said.
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Analysis & Commentary: Timothy Ash, RBS GBM
RBSMarketplace, Local Markets Strategy, LM Update
Royal Bank of Scotland, London, UK, Tuesday, Sep 22, 2009

The on-going attempts by the Ukrainian authorities to restructure the external liabilities of Naftogaz, the 100% state-owned gas supply/transit company, does raise the obvious question as to what impact the attempted move is likely to have on the sovereign's credit profile. Frankly I struggle to be positive.

[1]  First, in the bigger scheme of things, restructuring Naftogaz' external liabilities of US$1.9bn, on total public sector external liabilities of around US$25bn, over the longer term is not going to make a huge positive impact on Ukraine's debt sustainability.

Indeed, arguably Ukraine's current problems were never one of public sector indebtedness but more broadly external financing (a wide current account deficit and a weight of private sector external liabilities falling due), part and parcel of which was an over-extended/over-leveraged banking sector.

The deal currently being touted appears only to extend maturity with no hair-cut implied. Overall it brings limited benefits from a public sector debt sustainability perspective.

[2]  Second, the price of any rescheduling in effect will be the extension by the government of a formal sovereign guarantee to the company. This sovereign guarantee has been often promised in the past, but never actually delivered; including provision in the 2008 budget to cover payments under a sovereign guarantee all-but "promised" to bondholders in late 2007.

In effect the result will be to formally bring the liabilities of Naftogaz under the sovereign's umbrella. In effect therefore the sovereign is now formally assuming the liabilities of the company, which will surely impair its own credit matrix.

[3]  Third, there is nothing worse than not paying your liabilities when you are perceived to have the ability to pay, as it implies the willingness to pay is lacking. Ukraine still has foreign exchange reserves of around US$27bn, with US$3.3bn recently disbursed from the IMF, of which a large chunk was slated to cover public sector external liabilities falling due over the next few months.

In recent months, numerous officials had suggested that the company/sovereign had the resources to meet its liabilities. And, the company has recently received sovereign support to ensure it meets the monthly bill to pay for gas imports from Russia.

[4]  Fourth, for the past few years, successive Ukrainian governments have stated that they stand fully behind this 100% state owned company, which they have argued is too important to fail, because of its position as Ukraine's largest taxpayer, and also its key role in the lifeblood of Ukraine, gas transit.

These promises to investors were the prime reason that credit was extended to the company in the past, as on a stand-alone basis the company's credit profile did not stand up: importing gas at US$250-300 per 1,000 cu metres, and then selling it domestically at US$100-150 per 1,000 cu metres never made economic/commercial sense. Import prices and domestic sale prices are still set by the state, leaving the company, and investors, hostage to political whim.

The provision of state support for the company was therefore always seen as key. This support appeared to be forthcoming in the past, but promises made in the past have now not been held to. Policy makers are hoping that a Naftogaz restructuring will not damager their credibility going forward. This seems an optimistic assumption.

[5]  Fifth, rescheduling Naftogaz' external liabilities does not really resolve the fundamental problem for Ukraine's gas transit/supply system, that is it imports gas at a higher price than it sells it domestically. The IMF has called on domestic gas prices to be raised on September 1, and then on October 1.

Thus far it seems little progress has been achieved herein, with price hikes being delayed in the courts. The fear therefore is that this attempt at restructuring/rescheduling is being used as a short term ploy to delay the process of gas price liberalisation, presumably with an eye on presidential elections due in January.

The obvious concern therein is that any delay in domestic gas price hikes will make it very difficult for the IMF to continue to disburse funds under the existing SBA. A break in disbursements from the IMF would clearly be a sovereign credit negative.

[6]  Sixth, the fact that the debt restructuring efforts have been rolled out very late in the day (a matter of a few months before the redemption - when officials had previously indicated a willingness/ability to pay) and in a somewhat opaque manner, hardly reflects positively on the sovereign.

The late timing is evidenced now by the fact that the company/government seems to be trying to close a deal by October 20, long after the September 30 redemption date for the 2009 Eurobonds, and raising the spectre of a default;

[7]  Seventh, if the country's largest, most important, 100% state-owned corporate, has had to restructure its external liabilities, this hardly sends out a very positive message in terms of the ability of other Ukrainian corporates to meet their liabilities falling due. Their ability to refinance/roll liabilities will surely be impaired by on-going developments with Naftogaz.

[8]  Eighth, the obvious danger is that the current restructuring effort fails, and the company goes into a formal default. The MOF/company have indicated that they hope to conclude a formal agreement with bondholders by October 20, 2009, whereas the Eurobond's redemption date is at the end of September. The assumption is that the company will try and use the full grace period for payment of the principal amount to negotiate a deal with creditors.

Obviously this creates considerable short term uncertainty as to the outlook for a deal. A failure to conclude an agreement would create the unsightly prospect of Ukraine's largest, most important company going into default, and a likely prolonged period of uncertainty in terms of reaching an amicable settlement with creditors.

Given the company's strategic profile in terms of supplying/transiting gas supplies to Ukraine and on-ward to Europe, this clearly has broader implications. A protracted legal battle could undermine the ability of the company to carry out its basic operations, undermining European energy security. This seems like a remarkable risk to take for very little gain in terms of debt forgiveness/write down.

[9]  Ninth, a negative backlash from the current efforts at restructuring could well reduce the ability of the sovereign and Ukrainian corporates to access international capital markets in the short to medium term. Surely this would just leave Ukraine dependent on official financing for longer, and close one early exit route for the likes of the IMF, et al.

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Analysis and Commentary: By Timothy Ash, RBS GBM 
RBSMarketplace, Local Markets Strategy, LM Alert, CEEMEA
Royal Bank of Scotland, London, UK, Thursday, September 24, 2009

Ukraine formally announced the terms of the Naftogaz restructuring. These are more or less as had been leaked to the market over the past week, i.e. a 5Y year extension of maturity into a new Eurobond with a sovereign guarantee and paying a 9.5% coupon, versus the original 8.125% coupon. New bonds will be issued 1:1 with the old hence there is no principal haircut.

Priced off the existing Ukrainian sovereign curve, this would suggest 6-7 price points of upside, from current levels of the existing Naftogaz 8.125% 2009s which are trading around 87. That said this is still a quasi sovereign issue (100% state-owned), albeit now with an explicit sovereign guarantee. Russian quasi-sovereigns, admittedly with no sovereign guarantee but much better stand-alone status, trade with a spread in the range of 30 -180bps over the Russian sovereign Eurobond curve.

In Naftogaz's case its business model is arguably fundamentally flawed, i.e. it buys gas at US$250 per 1,000 cu metres and sells it at US$100-150, booking the loss, and hoping the state picks up the tab. Gas pricing is also outside its remit, as it is effectively subject to agreements in effect set at the inter-governmental level and domestic regulation by the state. Net-net I would probably price it at the top end of the above range, limiting price upside from current levels.

The difficult question then is deal risk, which is hard to gauge. My understanding is that any deal could be blocked by 25% of bondholders failing to participate. Various bondholder groups have been doing the rounds touting for support to oppose any restructuring. Experience (e.g. Argentina) suggests in reality that hold-outs don't get very far.

Indeed, probably most bondholders will participate simply on the assumption that the terms could have been worse, i.e. at least there is no haircut on the principal.

This has to be set against the higher yield and credit enhancement via the sovereign guarantee. The alternative is the prospect of a protracted legal battle; albeit even this might not be that appealing for the Ukrainian side, given the close proximity of presidential elections and the possible negative connotations it might have for the incumbent administration, e.g. the perception of mis-handling relations with foreign creditors.

Perhaps a more pressing point is the ruling yesterday by Fitch that failure to pay, as per the existing schedule, on September 30, will risk a "restrictive default", with negative sentiment likely to result. The terms of the current proposal are for bondholders to vote by the early participation deadline on October 8, a final voting deadline on October 15, and a bondholder meeting on October 19.

This suggests no resolution until after the bonds are due to mature, hence a restrictive default will be called. Presumably the issuer assumes that this will provide an additional incentive for the bond-holders to participate. If this were not enough, they set a 5 point penalty for bondholders who fail to sign up to the deal by the early participation date.

There is then the whole issue as to how this impact on the sovereign's credit worthiness. If a deal gets done, arguably it removes/resolves one uncertainty; albeit there is still the danger that the deal fails to win the backing of a quorum of bondholders, and we end up with the company in default, and more uncertainty.

Overall, and as we argued earlier in the week (see ,"Ukraine - Naftogaz continues to weigh on the sovereign", September 22, 2009) it is probably a credit negative for the sovereign though, as now the MOF explicitly guarantees the liabilities of the company, and the sovereign credit matrix will deteriorate as a result.

One argument previously used by policy makers against extending a sovereign guarantee to Naftogaz, was that this would stall the process of gas price liberalisation, as the deficit of the company would just then be absorbed by increased borrowing, guaranteed by the state. Presumably this argument still stands, but now working against the sovereign.

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Interfax Ukraine, Kyiv, Ukraine, Fri, September 25, 2009

KYIV - Ukrainian national oil and gas company Naftogaz Ukrainy is unlikely to conclude its debt restructuring on time, according to analysts surveyed by Interfax.

The analysts also said Naftogaz's offer to replace $500 million in eurobonds maturing on September 30, 2009 with state-guaranteed bonds maturing in 2014 was unlikely to satisfy creditors.

"Despite the fact Naftogaz has begun talks with the [eurobond] holders and published the terms of the restructuring, the company will not be able to agree those terms before the bonds mature. And if Naftogaz does not reach agreement with creditors to extend the liabilities, it will be in default," Astrum Investment Management senior analyst Sergei Fursa said.

Astrum currently has no information that the talks with creditors are continuing, so its basic scenario retains the assumption that Naftogaz will default on the eurobonds.

"Fitch's rating downgrade of Naftogaz is also associated with the pending restructuring," Fursa said. But Astrum analysts said the terms of the restructuring, which meet the investment company's expectations, are moderately positive, he said.

However, they do not include an exchange for sovereign debt, which would be the best option for investors. "Despite the provision of guarantees, we tend not to equate Naftogaz debt with sovereign," Fursa said, adding that the securities "should be trade at a premium to yields on sovereign debt.

The Ukrainian government has said throughout the year that it is the guarantor of Naftogaz's creditworthiness. As a result, the eurobond restructuring undermines investor trust in any form of guarantee, including guarantees written into law.

The yields on Naftogaz eurobonds should be 200-300 basis points higher than the yield on sovereign debt. Thus, Naftogaz eurobonds would likely fall to 80%-83% of par from the current 88%, he said.

Andrei Gerus, the director of consulting at Concord Capital expects that investors will reject the latest Naftogaz offer and that negotiations with creditors will continue. The optimal terms for creditors are a coupon rate of 11% and a restructuring period of three or four years.

It was reported earlier that Naftogaz has offered to exchange $500 million in eurobonds maturing on September 30, 2009 for new bonds guaranteed by the state and maturing in 2014. The new bonds would have a coupon rate of 9.5% annually compared with 8.125% on the existing issue.
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Interfax Ukraine, Kyiv, Ukraine, Thursday, September 24, 2009

LONDON/MOSCOW - Fitch Ratings has downgraded Ukraine-based OJSC Naftogaz's Long-term foreign and local currency Issuer Default ratings (IDRs) to 'C' from 'CC' respectively, the ratings agency said in a statement.

Both ratings remain on Rating Watch Negative (RWN). Fitch has simultaneously downgraded the senior unsecured rating on Naftogaz's USD500m eurobond to 'C' from 'CC' and removed it from RWN. The Recovery Rating (RR) on the eurobond is 'RR4'.

The downgrade reflects the recent announcements by Naftogaz and the government of Ukraine regarding their commitment to restructure all of Naftogaz's foreign currency-denominated debt. Fitch believes that it is now unlikely that the eurobond will be repaid on its maturity date (30 September 2009) at which time the agency would expect to further downgrade Naftogaz's IDR to Restricted Default (RD).

Fitch would likely rate Naftogaz's IRD 'RD' and the Eurobond 'C' during any extension period. Should a restructuring plan be agreed prior to the repayment date, or during any agreed extension period, then the rating outcome upon execution of the plan would depend on a number of factors including guarantee levels and recovery prospects for any restructured instruments.

The government of Ukraine has announced that it would be prepared to consider guaranteeing restructured Naftogaz debt up to a level of USD2bn, and has stated further that Naftogaz must complete any restructuring by 20 October 2009. Fitch will closely monitor discussions as, if an agreement is reached including a government guarantee for a substantial portion of its foreign currency-denominated debt, Fitch would expect to reflect this in its ratings.
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Interfax Ukraine, Kyiv, Ukraine, Fri, September 25, 2009

KYIV - A group of investors holding bonds in Naftogaz will determine their position on the debt restructuring terms proposed by the Ukrainian national oil and gas company by September 30 [Wednesday].

The creditors are still studying Naftogaz's proposal and have not determined their position, Carl Philipp R. Thomas, an associate of Luxembourg-based Aequi-Libria consultancy firm and a member of the Naftogaz Bondholder's Action Group, told Interfax.

He said the group would hold consultations with its lawyers Clyde & Co and also discuss the further strategy with other bondholders. The group expects to determine its position and strategy by September 30, he said.

Thomas said the creditors expect the semi-annual coupon on the bonds to be paid as scheduled on September 29. Not doing so would be Naftogaz's most contradictory statement yet about its lack of desire to reach a compromise with the bondholders, he said.

Naftogaz on September 24 offered to exchange $500-million in Eurobonds maturing on September 30, 2009 for new bonds guaranteed by the state and maturing in 2014. The new bonds would have a coupon rate of 9.5% annually compared with 8.125% on the existing issue.

One condition Naftogaz Ukrainy plans for the exchange is that holders who accept the exchange before October 8 would receive new bonds equal to 100% of their holdings. In the second phase, until October 15, holders would receive 95%. The Eurobond holders are scheduled to meet in London on October 19, 2009.
A group of holders of Naftogaz Eurobonds worth about $100 million, or 20% of the overall bond issue, say they disagree with the possible restructuring. A representative of that group predicts that other investors may join the group and that they will be able to veto the restructuring if more than 25% of the bondholders dissent.

Naftogaz Ukrainy includes Ukraine's biggest oil and gas production enterprises and is the monopoly for transit and storage of natural gas and for oil transportation on Ukraine's pipeline network.