Restructuring Ukraine Custom Case Solution & Analysis

Evidence Brief: Restructuring Ukraine

1. Financial Metrics

• Total funding gap identified by the International Monetary Fund: 15 billion dollars over four years.
• Debt to Gross Domestic Product ratio projection: 94 percent by the end of 2015 without intervention.
• Currency devaluation: The Hryvnia lost 70 percent of its value against the dollar within one year.
• Inflation rate: Peaked at 46 percent in 2015.
• Foreign exchange reserves: Dropped to approximately 5 billion dollars, barely enough to cover one month of imports.
• Private sector debt involved in negotiations: 15.3 billion dollars across 29 different bond issues.
• Russian Federation bond: 3 billion dollar Eurobond due in December 2015.

2. Operational Facts

• Conflict status: Active military engagement in the Donbas region resulting in a 7 percent loss of national territory and significant industrial capacity.
• Industrial decline: Significant loss of coal and steel production in Eastern regions.
• Legal framework: The Parliament of Ukraine passed legislation allowing the government to impose a moratorium on foreign debt payments if negotiations failed.
• Leadership: Ministry of Finance led by Natalie Jaresko, a former private equity executive.

3. Stakeholder Positions

• Natalie Jaresko (Finance Minister): Demanded a 20 percent haircut on principal to meet International Monetary Fund sustainability targets.
• Ad Hoc Committee of Creditors (Led by Franklin Templeton): Initially resisted any principal reduction, suggesting maturity extensions and interest rate reductions instead.
• International Monetary Fund: Required a successful debt restructuring as a condition for the 17.5 billion dollar Extended Fund Facility.
• Russian Government: Refused to participate in the ad hoc committee, insisting the 3 billion dollar debt was official sovereign debt, not commercial debt.

4. Information Gaps

• Long term impact of the Value Recovery Instruments on the national budget if Gross Domestic Product growth exceeds 4 percent.
• Specific terms of the secret bilateral agreements between Russia and the previous administration.
• Detailed breakdown of the military expenditure requirements for the upcoming fiscal years.

Strategic Analysis

1. Core Strategic Question

• Ukraine must determine how to secure a significant debt write down from private creditors to satisfy International Monetary Fund conditions while maintaining enough goodwill to return to capital markets in the medium term.
• The dilemma involves balancing immediate fiscal survival against the long term cost of being perceived as a predatory debtor.

2. Structural Analysis

The negotiation is a classic game of chicken played under the shadow of a systemic collapse. The Political Economy lens reveals that the domestic legitimacy of the government depends on shifting the burden to external creditors rather than domestic pensioners. The bargaining power of Ukraine is temporarily high because the International Monetary Fund has signaled it will continue lending even if Ukraine defaults on private debt. This removes the usual threat creditors hold over sovereign nations.

3. Strategic Options

Option A: Unilateral Moratorium and Hard Default

• Rationale: Immediate cessation of all outflows to preserve remaining reserves for the military effort.
• Trade-offs: Results in a decade of exclusion from international markets and seizure of state assets abroad.
• Resource Requirements: Massive legal team to fight international litigation for years.

Option B: Collaborative Restructuring with Value Recovery Instruments (Preferred)

• Rationale: Offer a 20 percent haircut but provide creditors an upside through instruments tied to future economic growth.
• Trade-offs: Alleviates immediate pressure but creates a potentially massive future liability if the economy recovers rapidly.
• Resource Requirements: Consent from 75 percent of bondholders across multiple legal jurisdictions.

4. Preliminary Recommendation

Ukraine should pursue Option B. The inclusion of Value Recovery Instruments serves as a bridge between the pessimistic valuation of the creditors and the fiscal reality of the Ministry of Finance. It aligns the interests of the investors with the recovery of the nation while meeting the 15 billion dollar gap requirement set by the International Monetary Fund.

Implementation Roadmap

1. Critical Path

• Step 1: Secure formal endorsement from the International Monetary Fund for the restructuring terms to use as a floor for negotiations.
• Step 2: Launch the exchange offer for the 15.3 billion dollars in commercial debt, requiring a 75 percent threshold for collective action clauses.
• Step 3: Legally isolate the Russian 3 billion dollar bond to prevent it from blocking the broader commercial deal.
• Step 4: Execute the issuance of new bonds and the accompanying Value Recovery Instruments.

2. Key Constraints

• The 75 percent threshold: If a major holdout like Franklin Templeton refuses the deal, the collective action clauses cannot be triggered.
• The Russian veto: The legal status of the 3 billion dollar bond as either commercial or sovereign determines whether it can be included in the general restructuring.
• Time: The foreign exchange reserves are depleting at a rate that allows for a maximum of six months of negotiation.

3. Risk-Adjusted Implementation Strategy

The strategy must include a contingency for the Russian bond. If the Russian Federation refuses the terms, Ukraine must be prepared to default on that specific instrument while continuing to service the new restructured commercial bonds. This requires a precise legal ring-fencing strategy to ensure that a default on the Russian debt does not trigger cross-default clauses in the new instruments. The plan assumes a 90 day window for the exchange offer to be completed before the December 2015 maturity of the Russian bond.

Executive Review and BLUF

1. BLUF

Ukraine must execute the proposed 20 percent haircut and maturity extension immediately. The 15 billion dollar funding gap is non-negotiable for the International Monetary Fund. The proposed Value Recovery Instruments are the only mechanism to secure creditor consent without a total default. Failure to close this deal by the end of the third quarter will result in a hard default, the collapse of the Hryvnia, and the termination of the International Monetary Fund support program. The priority is fiscal survival over long term interest costs.

2. Dangerous Assumption

The analysis assumes that the International Monetary Fund will maintain its Lending Into Arrears policy if the conflict escalates further. If the International Monetary Fund changes its stance or if geopolitical support from the West wanes, the entire restructuring fails as the underlying funding gap would remain unfilled regardless of creditor concessions.

3. Unaddressed Risks

• Risk 1: The Value Recovery Instruments could become a fiscal burden that prevents future capital investment if the economy grows at 5 percent or more. Probability: Low. Consequence: High.
• Risk 2: Judicial rulings in English courts regarding the Russian bond could lead to the freezing of Ukrainian state assets. Probability: Moderate. Consequence: Moderate.

4. Unconsidered Alternative

The team did not fully explore a debt-for-equity swap involving state-owned enterprises. While politically sensitive, offering shares in national energy or infrastructure assets could have reduced the required haircut and provided creditors with tangible assets rather than speculative growth instruments.

5. Verdict

APPROVED FOR LEADERSHIP REVIEW