Expert Opinion (#06 June 2011)

Placement of Shares on Foreign Stock Exchanges by Ukrainian Issuers

by Glib V. Bondar, Mykola V. Stetsenko

Despite the fact that Ukrainian legislation on securities has changed substantially in recent years, share placement by a Ukrainian issuer (Issuer) on foreign stock exchanges remains poorly regulated. This article is a short comparative summary of advantages and disadvantages of alternative structures of initial offerings of either shares or global depositary receipts (GDRs) by the Issuer on an international stock exchange (IPO). The following structures may be used: (a) direct placement of shares in the Issuer on a foreign stock exchange; (b) placement of GDRs of the Issuer (on the basis of Ukrainian shares); (c) placement of GDRs of a foreign holding company (Foreign Holding Company) 1 that owns the majority of Ukrainian shares in the Issuer; (d) placement of shares in the Foreign Holding Company on a foreign stock exchange.

Direct placement of Ukrainian shares in the Issuer on a foreign stock exchange

According to Ukrainian laws the procedure of direct placement of shares in the Issuer on a foreign stock exchange (unlike GDRs) is rather problematic and has to comply with the following requirements:

Ч the Issuer obtaining approval from State Commission on Securities and the Stock Market (SCSSM) for share placement abroad;

Ч only shares not exceeding 25% of the total share capital of the Issuer are allowed to be placed on a foreign stock exchange;

Ч registration with the SCSSM of shares issue that will be placed on the foreign stock exchange is required;

Ч registration is conducted by the SCSSM within 45 days and the SSMSC does not have substantial experience in commenting on and approving prospectuses prepared according to European standards;

Ч shares in the Issuer may be denominated only in Hryvnia;

Ч mandatory requirement of listing of shares in the Issuer on at least one stock exchange in Ukraine;

Ч other technicalities determined by Ukrainian laws.

Taking all of this into consideration, we do not consider this option as realistic until Ukrainian laws improve.

Placement of GDRs on a foreign stock exchange

GDRs are issued by a depositary bank (Bank of New York Mellon, Citi, Deutsche Bank or JPMorgan Chase) that issues such GDRs on the basis of securities deposited with a custodian or a depositary bank itself. Since GDRs are not Ukrainian securities and are not intended for circulation on the Ukrainian securities market, their issuance and circulation are generally beyond the scope of Ukrainian legislation.

Shares in Ukrainian issuers, as well as shares in foreign issuers may be deposited. In case Ukrainian shares in the issuer are deposited, they would be deposited with an authorized Ukrainian custodian (with, e.g., ING Bank Ukraine) on the securities account of the depositary bank opened with such Ukrainian custodian. The depository bank will, in its turn, issue a corresponding number of GDRs, which may be sold to international investors and listed on foreign stock exchanges. GDRs may be issued in different proportions to deposited shares, for instance, 1:1, 1:2 or 2:1, etc.

The issuance of GDRs may be conducted either with participation of the issuer (the so-called sponsored issuance program) or without its participation (the so-called unsponsored issuance program). In this summary we focus only on sponsored programs, which involve additional capital rising for the issuer, as opposed to mere increase in liquidity of existing shares in the issuer.

The IPO experience of most Ukrainian companies demonstrates that Ukrainian issuers prefer issuance of GDRs (or shares) by a Foreign Holding Company. Please find below a comparison of advantages and disadvantages of the direct (onshore) GDR issuance as opposed to the indirect (offshore) GDR issuance through the Foreign Holding Company.

(а) Placement of GDRs of the Issuer on a foreign stock exchange

Advantages:

No corporate reorganization of shareholding structure is required and there are no accompanying difficulties related to the On Joint-Stock Companies Act of Ukraine (mandatory buy-out (i.e., tender offer) of shares of minority shareholders (if they exist) due to acquisition of more than 50% shares in the Issuer by the Foreign Holding Company (Article 65 of the On Joint-Stock Companies Act of Ukraine).

No incorporation of the Foreign Holding Company and development of a vertical holding structure are needed.

No approval by the SCSSM, as is the case with placement of shares directly, is required.

Disadvantages:

It is not possible to issue new shares, which will be underlying GDRs, without the full prepayment of such shares and full registration of such issuance with the SCSSM.

There is a substantial risk that the depository bank will not have the possibility to cast different votes at the general shareholdersТ meetings of the Issuer in case it receives different instructions from the GDR-holders (so-called split voting).

There is a theoretical risk that if GDRs are issued based on 25% of shares or more, prior approval (or waiver) for concentration from the Antimonopoly Committee of Ukraine (AMCU) may be required for the depository bank.

If the Issuer is, according to the On Banks and Banking Activities Act of Ukraine, a Ukrainian bank, the depository bank will need to obtain prior consent from the National Bank of Ukraine for the acquisition of a substantial stake (required if 10% or more of shares of the Issuer are formally acquired).

If the Issuer is, according to the On Banks and Banking Activities Act of Ukraine, a Ukrainian bank, the depository bank will need to obtain prior consent from the NBU for granting to the Issuer the status of a bank with foreign capital (required if 10% or more of shares of the Issuer are formally acquired by a non-Ukrainian person). This requirement will be abolished starting from 17 June 2011.

In case the Issuer decides to issue additional shares there may be a risk that the Issuer will become obliged to buy out shares owned by shareholders that oppose such an issue (Articles 68-69 of the On Joint-Stock Companies Act of Ukraine).

Until recently there was a problem of insufficient development of corporate governance system in Ukraine. However, with the enactment and improvement of the new On Joint-Stock Companies Act of Ukraine this problem is in most aspects resolved.

On the other hand, certain time is required to test new provisions in practice.

The positive changes in corporate governance, introduced by the On Joint-Stock Companies Act of Ukraine, include the following:

Ч election of governing bodies of the Issuer by cumulative voting;

Ч possibility to elect independent directors to the Supervisory Board of the Issuer;

Ч possibility to form committees within the Supervisory Board and, at the same time, formation of the Audit Committee by the Issuer become discretionary;

Ч special procedures for approval of financial transactions and transactions with connected entities were introduced;

Ч the law established regulation of reporting by the Issuer to its shareholders on its activities.

(b) Issuance of GDRs by the Foreign Holding Company

Advantages:

No prepayment of shares is required during the issue of new shares.

The depository bank will have the possibility to vote at shareholdersТ meetings of the Foreign Holding Company in accordance with any voting instructions given by the holders of GDRs (i.e., split voting may be possible), as well as the holders of GDRs will be able to vote directly if they wish so.

Approval from the SCSSM is not required, as in a structure involving direct issue of shares.

Disadvantages:

Corporate reorganization of the shareholding structure of the Issuer will be required (if not already done), in particular:

it is necessary to establish the Foreign Holding Company and to transfer shares in the Issuer to it (in case of sale it has to be done for a price not less than the nominal value);

since more than 50% of shares will be acquired by the Foreign Holding Company, such a Foreign Holding Company will be obliged to offer the minority shareholders (if they exist) of the Issuer to buy out their shares;

there may be a need to obtain an individual license from the NBU if a beneficiary who is a Ukrainian resident will be an official shareholder of the Foreign Holding Company or sub-holding companies;

if the Issuer is a Ukrainian bank the consent of the NBU for replacement of existing shareholders in the Issuer for the Foreign Holding Company (i.e., approval of acquisition of substantial stake in the Issuer by the new entity) will be required in accordance with the On Banks and Banking Activities Act of Ukraine;

if the Issuer is a Ukrainian bank it will need to obtain prior consent from the NBU for granting to it the status of a bank with foreign capital (required if 10% or more of shares of the Issuer are formally acquired by a non-Ukrainian person).

There is a theoretical risk that if GDRs are issued based on 25% of shares or more, prior approval (or waiver) for concentration from the AMCU may be required for the depository bank.

If the Issuer is a Ukrainian bank there is a risk that it will be necessary to obtain prior consent from the NBU for indirect acquisition by the depository bank of 10% or more shares of the Issuer in accordance with the On Banks and Banking Activities Act of Ukraine.

3. Issuance of shares in the Foreign Holding Company on a foreign stock exchange

The Foreign Holding Company can place its shares on a foreign stock exchange directly without placement of GDRs.

The advantages of this option will vary depending on the specific stock exchange and jurisdiction of the Foreign Holding Company.

For example, on the Warsaw Stock Exchange traditionally shares and not GDRs are in circulation.

The advantages and disadvantages of issuance of foreign shares by the Foreign Holding Company from are listed below.

Advantages:

Voting by owners of shares does not create problems.

Additional shares issue of the Foreign Holding Company does not require their prepayment prior to placement among investors.

Prior consent by the SCSSM is not required, unlike in case of direct share issues.

There are no risks connected to a depository bankТs acquisition of prior consent from the AMCU and the NBU due to the fact that shares will be disbursed among a large number of investors and not a single depository bank.

Disadvantages:

Corporate reorganization of the shareholding structure of the Issuer will be required (if not already done), in particular:

it is necessary to establish the Foreign Holding Company and to transfer shares in the Issuer to it (in case of sale it has to be done for a price not less than the nominal value);

since more than 50% of shares will be acquired by the Foreign Holding Company, such Foreign Holding Company will be obliged to offer the minority shareholders (if they exist) of the Issuer to buy out their shares;

there may be a need to obtain an individual license of the NBU if the beneficiary Ч Ukrainian resident will be an official shareholder of the Foreign Holding Company or sub-holding companies;

if the Issuer is a Ukrainian bank the consent of the NBU for replacement of existing shareholders in the Issuer for the Foreign Holding Company (i.e., approval of acquisition of substantial stake in the Issuer by the new entity) will be required in accordance with the On Banks and Banking Activities Act of Ukraine;

if the Issuer is a Ukrainian bank it will need to obtain prior consent from the NBU to be granted the status of bank with foreign capital (required if 10% or and more of shares of the Issuer are formally acquired by a non-Ukrainian person).

To conclude we would like to stress that although each structure has a number of advantages and disadvantages, placement of GDRs (issued on the basis of Ukrainian shares) is becoming a realistic possibility that can be implemented in practice. Placement of shares in the Foreign Holding Company on a foreign stock exchange remains an effective and the most widespread structure.


1 In this article we assumed that the Foreign Holding Company will be established in a jurisdiction (the Netherlands, Luxembourg, and Cyprus) commonly used for these purposes.

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