Contents EURO 2012 ...... 5 What does Ukraine Expect from EURO 2012? ...... 5

OVERVIEW BY SECTORS ...... 7 1. Agriculture ...... 8 Agriculture Sector Overview ...... 8 2. Banking & Financial Services...... 12 The Banking Sector. The Currency Control Regime. The Anti-Money Laundering Set-Up ...... 12 3. Customs Regulation ...... 24 Customs Duty Planning: Practical Aspects ...... 24 4. FMCG Market ...... 30 Retail Sector Overview ...... 30 Beer & Kvas Market Overview ...... 39 5. Fuel and Energy ...... 45 Electricity Sector of Ukraine ...... 45 Securing the Land Rights and Implementation of the Alternative Energy Projects ...... 47 6. Healthcare ...... 52 Healthcare Policy Insights ...... 52 7. Human Resources, Labor and Employment ...... 55 Ukrainian Labor Market Overview: The Latest Trends ...... 55 Main Novelties in the Draft Labor Code of Ukraine ...... 57 8. Information & Communication Technologies ...... 61 Information and Communication Technologies Sector Overview ...... 61 9. Intellectual Property Rights ...... 64 Personal Data Protection in Ukraine: Legislative Innovations ...... 64 10. Investment Policy ...... 67 The Most Promising Sectors for Investing in Ukraine ...... 67 11. Leasing ...... 72 Leasing Market: Overview and Trends ...... 72 12. Legal System Overview ...... 74 The Role of Courts in Protection of Investors' Rights in Ukraine ...... 74 New Anti-Corruption Laws in Ukraine: a Beautiful Fa ade with Window Dressing? ...... 76 Ukrainian Competition Policy: a Glance over the Curtains ...... 79 13. Logistics and Transportation ...... 83 2011 Air Code of Ukraine: What it Means for Business? ...... 83 14. Media ...... 89 Ukrainian Media Overview ...... 89 15. Real Estate ...... 91 Office Market ...... 91 Warehouse Market ...... 95 16. Taxation ...... 98 Intergovernmental Exchange of Tax Information Mechanism as a New Source of Additional Tax Revenues ...... 98 Taxation of Transactions with Non-resident Legal Entities: CPT and VAT Aspects ...... 102 Ukraine 2013: Transfer Pricing ...... 107 Ukrainian Tax Authorities are Ready to Challenge Double Tax Treaty Benefits ...... 113 17. Travel and Tourism ...... 115 Travel and Tourism Sector Overview ...... 115 Prepared by: EURO 2012 EURO 2012 What does Ukraine expect from EURO 2012?

EURO 2012 is generating lots of expectations, Many experts, however, are more pessimistic hopes, and concerns for the whole country. about the effect this sporting event will have. Preparations for the championship have had In their view, EURO 2012’s effect on the econ- a major influence on the economic situation omy will have a local character. Impact on GDP in Ukraine since 2010. growth is expected to be no more than 4.5 per- cent. Private investors are already reluctant to According to a report on macroeconomic trends invest, and the total amount of public invest- prepared by UMG International, there is an op- ment in EURO 2012 preparation is 70–80 per- timistic outlook in such sectors as tourism, the cent of the required amount. Additionally, the hotel business, services, and infrastructure. issue of the overvaluation and non-transpar- Governmental spending on EURO 2012 prep- ency of championship expenditures is creating arations has had a positive impact on the con- public indignation and raising doubts about struction industry. Enterprises specializing Ukraine’s ability to host EURO 2012. in building bridges, overpasses, tunnels, and Economic growth, the country’s positive image underground facilities have seen their busi- abroad, and a positive attitude in society at large ness grow 3.7 times; enterprises specializing are three key elements that are interesting ex- in roads, air facilities, and sports surfaces perts when it comes to hosting EURO 2012. have seen their business grow 1.6 times. So what are social attitudes in Ukraine to- In general, approximately 83 percent of all wards the football tournament? work in the construction sector is concen- trated on new construction, reconstruction, According to research conducted by UMG In- and technical re-equipment for the event. ternational during August — September 2011, based on a sample of 1,751 respondents, 80.9 In addition, EURO 2012 will have a positive percent of Ukrainians think that EURO 2012 effect on the country's image and will attract will have a positive impact on Ukraine in gen- more foreign investment. In the previous year, eral, while 19.1 percent have the opposite Ukraine’s reputation among the “Big 8” (USA, opinion. 43.5 percent of respondents claim Japan, Germany, Britain, France, Italy, Canada, that EURO 2012 will influence the economic and Russia) increased by 6.7 percent (accord- situation in Ukraine positively, 10.9 percent ing to a Reputation Institute study). expect a negative impact, and 45.6 percent According to the forecasts of the Cabinet think that the situation will not change at all. of Ministers of Ukraine, holding EURO 2012 Asked about politics, 16.2 percent answered should accelerate GDP growth by 1.5 percent that EURO 2012 will improve the political points, while holding inflation and the hry- situation in Ukraine, while 6.9 percent expect vnia stable. In 2012 nominal GDP will reach deterioration and 76.9 percent think that the 1.475 trillion UAH. If government predictions situation won’t change. 77 percent of those come true, by the end of 2012 the Ukrainian surveyed think that EURO 2012 will have a economy will almost have returned to pre- positive effect on Ukraine’s image abroad, crisis levels, reaching 99.3 percent of the in- while 23 percent have a negative attitude dex for 2008. about this issue.

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1. AGRICULTURE

Agriculture Sector Overview

2011–2012 Partnership for Successfully Competing in the Global Economy Report

The development of the agricultural market is As can be seen in Table 2, the number of pigs essential for the overall growth of the Ukrain- and poultry increased in 2010 by 5 and 6 per- ian economy. Ukraine’s agricultural sector did cent, over 2009. The number of cattle, sheep relatively well during the recent economic cri- and goats slightly decreased. As reported by sis. This is true even though the Ukrainian gov- the State Statistics Service of Ukraine the prof- ernment intervened in key market operations itability of agriculture in 2010 was 21.1 percent by introducing export limitations and price (26.7 percent for crops and 7.8 percent for live- regulations. Agriculture accounted for 7.2 per- stock), which is substantially higher than it was cent of GDP and 13.7 percent of export in 2010. in 2009 (13.8 percent). Considering the sector’s performance results for the last three years, we The State Statistics Service of Ukraine re- are expecting a positive development trend in ported that agricultural production in 2010 the agricultural sector in the future. was 98.5 percent of what it was in 2009. The decrease in output was induced mainly by a Table 2. Cattle stock of Ukraine in 2010 decrease in crops, while livestock production Type of output 2010 in % to increased. Production fell both at agricultural 2008 2009 enterprises and in private households. Pro- Cattle 88 93 duction of grain crops, as can be seen in Ta- Pigs 122 105 ble 1, was 15 percent lower than in 2009 and Sheep and goats 100 94 26 percent lower than in pre-crisis 2008. The Poultry 115 106 main reason for the decline in grains was unfa- Source: State Statistics Service of Ukraine vorable weather conditions. At the same time, Ukraine’s agriculture production has a sub- production of sugar beets increased by 37 per- stantial effect on the world markets. Even cent compared to the same period in 2009. though the agriculture markets are dominat- ed by price competition, Ukrainian producers Table 1. Main types of agricultural output of Ukraine in 2010 tend to have an influence on world prices. A temperate climate, large intact tracts of land, Type of output 2010 in % to 2008 2009 fertile soils, proximity to different markets, Grain and skilled and relatively abundant labor, and the leguminous plants 74 85 low price of productive inputs together offer Sugar beets 102 137 a global competitive advantage for the de- Sunflower seeds 104 106 velopment of Ukraine’s agricultural sector. Potatoes 96 95 Ukraine established itself as the third largest Vegetables 102 97 Meat 108 107 grain exporter worldwide in the 2008–09 and Milk 96 97 2009–10 seasons. Only the USA and the EU Eggs 114 107 export more grain. Thus Ukraine is an impor- Wool 112 102 tant player in the world grain trade, alongside Source: State Statistics Service of Ukraine Russia, Australia, Argentina, and Canada.

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A low agriculture yield is one of the main lim- Ukraine is characterized by lower agriculture iting factors preventing Ukraine from utiliz- productivity than are other countries of the ing its agro potential more efficiently. Due to region — the Czech Republic, Poland, Lithu- a lack of technology and capital in the sector, ania, Belarus, and Latvia (See Figure 1).

Figure 1: Cereals yield in selected countries in 2009, hectogram/hectare

Overall, the agricultural sector’s export ca- Foreign investors are bringing capital and pacity is quite impressive. According to FAS new technologies into the sector. USDA data, in the 2009/2010 marketing year • The downstream sector, especially pro- Ukrainian agricultural producers controlled cessing, logistics, and trade, has undergone 36.3 percent of the world’s barley exports, substantial changes. Currently, competition 5.2 percent of corn, 6.9 percent of wheat, and in grain and oilseed trade and processing is 22.6 percent of sunflower seeds. They were very strong, and both domestic and foreign also the leaders in sunflower oil exports, pro- companies have invested substantially in viding 58.1 percent of the world’s total. In the inland and port storage and logistics infra- 2010/2011 marketing year, due to the intro- structure, making the latter more efficient. duction of export quotas by the Ukrainian A more efficient agricultural industry must government, exports of some cereals (barley, be based on free market principles and on rye and wheat) decreased twofold. the abolishment of restrictions. Government On the whole, the sector is contributing substan- involvement in the market has to be mini- tially to the country’s overall exports and in the mized and instead non-governmental or- 2011/2012 marketing year Ukraine will remain a ganizations have to proactively participate key player on the world grain market. The main in market regulation activities. The principal factors contributing to the positive trends are: negative factors influencing Ukrainian agri- • The agricultural sector has generally be- business in 2010–2011 were: come more efficient and competitive. • Direct state interventions into the function- Ukrainian farmers are adopting modern ing of agricultural markets (export restric- management and production technologies. tions, introduction of minimal prices etc.)

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• Recent amendments to the tax code, to Government Domestic Loan Bonds for VAT which markets were forced to spend a cer- Reimbursement to exporters and producers tain amount of time adjusting in the 2010– are acutely required. Some reforms, espe- 2011 marketing year; cially those related to VAT regulations, have • Inadequate regulation of agricultural markets; been launched, which is discussed in more detail in the tax policy section of this docu- • Lack of an agricultural market infrastruc- ment. However, these issues have been and ture, which negatively affects market links will remain important ones, and they will between producers, intermediaries, and require constant monitoring by the Ukrain- customers; ian and international business communities. • Dominance of asymmetric and unreliable There should be identified a clear list of basic market information; conditions that are both simple and effective enough to attract investment into the Ukraine • Low credit availability; agricultural sector, such as: • Low level of labor and land productivity; • Ensuring of minimum government inter- • Absence of a land market. ference in the sector, based on clear and transparent national food security policy Introduction of a land market is considered mechanisms and implementation of state to be the major factor for improving agricul- programs aimed at decreasing transactional ture sector investment attractiveness. Cur- costs for all market participants, especially rently the Draft Law “On the Land Market” producers; (#9001-1 of July 19th) is under consideration in the Verkhovna Rada. However, the legis- • Justification and probable abolition of some lation related to the establishment of a fully state authorities, like the Grain Bread In- functional land market cannot be limited to spection and the Quarantine and Veterinary one law, will be quite complicated in terms Inspections, thereby minimizing possibili- of drafting and practical implementation, ties for corruption and unfair treatment of and must include a system of laws that have market participants; yet to be adopted. The adoption of the Law • Equal treatment of all market participants; “On the State Land Cadaster” on July 7th is • Further improvement and simplification of a major step towards the establishment of a the tax system and of tax administration fully functioning land market. However, the and collection, including implementing of new legislation and the recent amendments an effective non-discriminatory VAT re- to the tax code are tending to decrease the fund system; confidence of market agents. Therefore, the expert and business community has been • Finalizing all the necessary legislation to watching the legislation closely and would launch an agro-land market. like to reiterate the need to inform busi- The Ukrainian government still needs to send nesses in advance of any changes and new a strong signal to foreign investors by re- mechanisms that will be implemented, as ducing government interference in the mar- well as to ask for professional feedback from kets and eliminating such negative factors as the private sector — feedback that is based poorly drafted and conflicting legislation. on the best international practices. It is expected that world grain and food con- Improvement of legislation, elimination of sumption as well as food price indices will administrative barriers and burdens, fun- continue to increase in the nearest future, in- damental reform of the VAT refund system, creasing the attractiveness of the agricultural predictable and transparent grain export sector of Ukraine to foreign investors. If seri- regulations, completion of land reform, and ous reforms are intelligently implemented in an equitable and transparent distribution of Ukraine, the country’s agricultural sector will

10 www.chamber.ua Agriculture maximize domestic investments and involve tives of the investment community. It will also new technologies in the sector. work with partner organizations and interna- The American Chamber of Commerce in Ukraine tional financial institutions to address all the is- will continue to conduct a wide advocacy cam- sues and problems in this sector, to update policy paign and maintain a working dialog with rel- and to promote adequate, clear, and transparent evant government authorities and representa- rules for business operations in Ukraine.

Figure 2: Food price index — includes cereal, vegetable oils, meat, seafood, sugar, bananas, and oranges price indices for the world, index, 2005=100.

Source: EconomyWatch

11 Uniting Leading Companies from over 50 Nations Across the Globe 2. BANKING & FINANCIAL SERVICES

The Banking Sector. The Currency Control Regime. The Anti-Money Laundering Set-Up

1. Banking Sector

Overview

• As of October 1st, 2011 Ukraine has 175 ac- (USD 129bn eq.). Since the beginning of the tive banks (Russia: ~1000). year growth of assets was +87bnUAH or • Total Assets of the banking system as of 9 percent. Top 50 banks represent ~90 per- October 1st, 2011 amounts to 1,029bn UAH cent of assets and 86 percent capital of the banking system.

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• Top 10 banks constitute ~55 percent of the such name but 100 percent are in Commer- banking system assets and capital concen- zbank’s hands. Two Italian banking groups — tration level is stable over past 3–5 years Intesa and Unicredit — purchased in 2008 and lags behind EU zone and neighboring Pravex Bank and UkrSotsbank respectively. Poland and Russia, where ~50 percent are • 2007 and 2008 have been marked by mas- covered by Top 5 banks. sive coming of regional and neighboring • Assets growth in 2011 was driven mostly by countries banks with a business model sim- extensive lending to big corporate clients ilar to previously mentioned Western banks (+12 percent), including big state corpora- dwelling on cheap external funding for tions. Otherwise the banks continued to use further development of consumer, car and spare liquidity to buy Ukrainian Govern- mortgage lending. Such banks established ment T-bills. presence via 2nd Tier banks like Univer- • Two banks are historically state-owned: the salbank (EFG Eurobank Ergasias), Piraeus savings bank — Oschadny and UkrExImbank, Bank, Astra Bank, Marfin Bank, Bank of Cy- an ex-part of USSR Vnesheconombank, now prus (both — Greece), Credit Europe Bank, a universal bank with a focus on export/im- Credit West Bank (Turkey). port operations and a financial arm of the • Separate group is represented by leading Ukrainian government in relations with in- Russian banks that moved to Ukraine to fol- ternational financial institutions. low their clients, get market share and touch • 3 more banks — Rodovid Bank, UkrGaz- the ground in retail business outside Russia Bank and Bank Kyiv — have been saved by (Alfa-Bank, VTB Bank and Sberbank). Two the government to calm crisis waves on the banks are now in Top 10 (Alfa — # 7, VTB — market in 2008. Strategy of privatization, # 10). VEB, Russian state-owned bank, en- merger for each of them is still being dis- tered the Ukrainian market at the end of cussed by government and regulator. 2008 by purchasing the “troubled” Promin- vestbank (# 8 at the moment) that focuses • Historically, Credit Agricole CIB came in on corporations. 1993 (at that time under Credit Lyonnais brand). Six other western banks came dur- • Current dynamics in foreign banks explic- ing the late 1990s: ING, Citibank, Raiffeisen, itly reflects the global credit and liquidity HVB, Unicredito and PKO. If ProCredit Bank crises as well as Ukraine’s low attractive- Ukraine started in 2001, as MicroFinance ness, today. Some banks either consider bank, a wave started in 2005: SEB purchas- exit from non-strategic markets or scaling ing Bank Aggio, Raiffeisen purchasing Aval, down their business. The consequences of BNPP purchasing 51 percent of UkrSibbank decisions taken by international banks to (now controlling 85 percent, 15 percent in mitigate global risks should be most prob- the hands of EBRD) Credit Agricole pur- ably seen in Ukraine in 2012. chasing in 2006 Index Bank, OTP purchasing • 2011 has seen the resolution of the most the “historical” Raiffeisen. burning issue of banking sector — the future • In 2007 Swedbank purchased two banks of the banks in NBU receivership, Nadra of TAS Group, merged by the end of 2009 and Rodovid. Bank Nadra has got power- into Swedbank. In 2011 the bank abandoned ful private investor — Mr. Firtash, owner of SME & retail business and focuces on big- businesses in gas & energy, agriculture and ger clients. In 2008 Commerzbank entered chemistry. In its turn Rodovid is poised to Ukrainian market via purchase of 60 per- become government’s “bad” bank for toxic cent of Bank Forum, still operating under assets of Ukrainian banking system.

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Table 1. Western-Owned Banks Data as of: 01.10.2011 1 USD = 7,973 UAH Data in Mio USD Rank by Bank Name Country Total Total Capital Rank by Net P/L Assets of Origin Assets Capital 4 Raiffeisenbank Aval AT 53 168 6 601 4 24 5 Ukrsibbank (BNP Paribas Group) FR 42 235 3 629 10 -1 395 6 Ukrsotsbank (UniCredit Group) IT 39 619 6 570 5 6 12 OTP Bank HU 22 826 3 255 11 445 19 Forum (Commerzbank Group) DE 12 453 1 833 18 - 430 20 ING Bank Ukraine NL 10 843 1 734 19 203 22 Erste Bank AT 10 437 1 365 24 - 26 25 Swedbank SE 8 589 1 560 20 87 26 UniCredit Bank Ukraine IT 8 509 896 30 28 31 Universal GR 6 680 554 44 - 319 32 Credit Agricole Bank FR 6 603 764 32 39 34 Pravex (Intesa Group) IT 5 855 1 168 26 - 22 35 Citibank Ukraine US 5 425 635 36 270 37 Marfin Bank CY 4 704 513 48 0 38 Piraeus Bank ICB GR 4 686 561 42 - 641 40 Credit Agricole CIB FR 4 283 558 43 136 42 Kredobank Ukraine PL 4 149 578 40 - 53 52 Platinum Bank US 3 215 379 55 7 58 SEB Bank SE 2 932 440 51 - 13 59 Volksbank AT 2 879 300 65 28 61 Procredit Bank DE 2 573 262 72 13 64 Bank of Cyprus CY 2 268 692 34 - 87 75 Astra Bank GR 1 624 1 084 28 15 88 Plus-Bank PL 1 313 205 88 6 144 Deutsche Bank DBU DE 335 173 96 - 21 150 ProFinbank (Societe Generale) FR 264 116 116 1 Grand Total 268 464 36 423 -1 699

Table 2. Banks under NBU Temporary Administration Data as of: 01.10.2011 Data in Mio USD Rank by Assets Bank Name Country Total Assets Account of Individuals Corporate Accounts 116 Inprombank UA 609 220 364,816 170 Stolytsya UA 119 36 12,319

Table 3. Banks closed since 01-Oct-2008 Data as of: 01.10.2011 Data in Mio USD # by Assets Name_eng Country Total Assets Accounts Individuals 15 UkrPromBank UA 14 646 7 992 54 European UA 1 872 613 61 BIG Energy UA 1 575 572 67 Ipobank UA 1 357 13 68 Dnister UA 1 311 460 74 Transbank UA 1 144 467 79 National Standard UA 1 076 211 85 Eastern European Bank UA 995 304 87 Bank of Regional Development UA 957 430 99 Arma-Bank UA 742 244 116 Odesa Bank UA 549 142 132 Prytchornomorya UA 380 144 137 Ukrainian Financial Group UA 338 114

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Assets Evolution

In 2010–2011 Banks experienced modest UAH; 4.6 times — loans in foreign currencies, growth of loans portfolio and assets. Total as- from USD 12bn in 01/2006 to 60bn USD in sets growth was +7.9 percent in 2010 (+69bn October 2008. UAH ), and may reach +12 percent percent by Development of loans portfolio in 2009–2011: the end of 2011 (+9.2 percent or + 87bn UAH by October 2011). • UAH denominated loans total amount con- tinued to grow in 2009, mainly driven by This “adjustment” is coming after the period massive state support of state companies of boom and bust: during 3 pre-crisis years and banks: +9 percent in 4Q 2008, +14 per- total bank assets grew from +/- 42bn USD cent in 2009, +15 percent in 2010, +17 per- (December 2005) to 120bn USD (December cent in 2011 so far. 2008). Overall 3 times growth (USD), peak reached in October 2008 –155bn USD (just • FC loans, if accounted in USD eq., show slide before UAH devaluation). of -6 percent (-24 percent p.a.) in 4Q 2008 and -16 percent in 2009, and -6 percent in Commercial loans grew up even faster be- 2010, just -1 percent in 2011 so far. tween 2006 and 2009: 3.7 times — loans in

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Overall Commercial loans in USD terms in- currency to ease the burden of interest pay- creased 8 percent since the beginning of ments. 2011. Loans are massively prolonged when Rating agencies mention that as of mid of 2010 borrowers appear to be incapable to repay the banks that they rate have restructured them in the current market slide of activity, loans on average for more than 35 percent. or restructured in exchange for partial re- On top of such loans, overdue loans exceed payment. Some FC loans to individuals, on 10 percent of the loans. It is not a single case advice and with the support of the National when foreign banks sell their loans portfolio Bank of Ukraine, are converted into local to collection companies. Assets/Liabilities Imbalances

Non-performing loans is a major problem of The rally for deposits was launched by banks the banking system for all categories of banks. after 2008 financial crisis dried out the flow Reserves accumulated by banks are building of foreign financing from abroad. By raising up quickly: from 4 percent of loans portfolio rates, marketing new short-term & bonus in October 2008 to 14 percent in October 2009 products the banks reached visible stabiliza- to 18.7 percent in 2010, 19.2 percent in Oc- tion of domestic funding. The banks have kept tober 2011. Yet many analysts estimate that and even increased deposit base since 1 Janu- loans portfolio remains under-provisioned. ary 2009: population deposits have grown up

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~60bn UAH to reach 275bn UAH as of January porations increased to 606.5bn UAH as of Oc- 1st, 2011, and almost half of that amount has tober 1st, 2011 or + percent, +UAH 66bn, since been deposited by individuals in 2011. Dur- January 1st, 2011. The increase over the last ing the same period (Year-to Date 2011) cor- 10 months is the result of loans to Naftogaz, porate accounts are up 38bn UAH and total Ukrainian Railways, Ukravtodor, Energoatom… 136bn UAH. The banks’ loans to deposits ratio is improv- But some banks achieved it at a price…their ing: 2.19 as of January 1st, 2010, at 1.85 on Jan- funding became expensive! uary 1st, 2011 (but at 2.05 in FC!) now at 1.61 st Lending did not restart really: banks still have as of October 1 , 2011. To be noted that the to provision their assets, the economy is pro- FC borrowing from banks abroad decreased gressing at a small pace, the legal environ- from 42bn USD at the start of the crisis to + ment remains a plague for banks. In 2011, 30bn USD now, Western-owned banks being however, loans to individuals have almost the biggest beneficiaries of such funding. stabilized (first 9 months: -1.2 percent, –2bn Excess of funds went in 2010 into securi- UAH, to 203bn UAH). This is the result of a ties market where banks’ outstandings have significant increase in UAH loans (+24 per- grown twice from 38.5bn UAH at the end of cent to 77bn UAH) and continuing decrease 2009 to 83.7bn UAH by the end of 2010. In 2011 of “old” foreign currency loans (-12.5 percent liquidity deficit was such that total portfolio to UAH 126bn). Banks do not lend in foreign of securities held by banks even decreased to currencies since the 2008 crisis. Loans to cor- 80.6bn UAH.

Income and Expenses

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Net Banking Income at banks stagnated in Net Result remains negative as loans loss 2010: +1.6 percent, 71.8bn UAH vs 70.7bn UAH provisions continue to eat into banks earn- for 2009. Year 2011 should see a 1 to 10 per- ings, although slowly decreasing, showing the cent growth: as of October 2011 NBI reached way out of the 2008 crisis: -28.8bn UAH for 9 57.5bn UAH versus 50.8bn UAH in October months 2011, compared to –36bn UAH for 9 2010, i.e. +6.8 percent on per annum basis. months of 2010, improved from –48.8bn UAH for 9 months of 2009. Operating expenses surge despite closure and re-location of offices and staff expenses Capital increase was a big concern for the control. Operating Expenses’ growth in 2010 banks. After urgent and “emergency” capital -39.1bn UAH vs -36.6bn UAH in 2009 (+6.8 infusion of 35bn UAH in 2009, the banks con- percent) would be extended in 2011: as of Octo- tinued the pace in 2010 by adding 27bn UAH ber 2011 Administrative & Staff expenses were in 2010 and further 22bn UAH in 2011. But –UAH 34.4bn (compare to –25.8bn UAH in Oc- banks are edequately capitalised today. tober 2010). Cost-to-income ratio estimation deteriorates towards around 60 percent. Market Regulator

The National Bank of Ukraine (NBU), staffed day to day activities, reporting “everything”, with more than 11000 employees, regulates but the NBU enforcement capacity is not per- since 1991 the banking activity, banks being fect. As the NBU highlights it also, the Bank- subject to very significant constraints in their ing sector is faced, mostly for its non-western

18 www.chamber.ua Prepared by: Banking & Financial Services owned portion, with challenges and issues the NBU independence (a challenging task), such as fragmentation, including many small the obligation to reveal beneficiary owners banks (whose minimum regulatory capital (in December 2011), a necessity to focus on will have to be at 120m UAH as of January inflation management and less on the “peg” 1st, 2012), capital adequacy, insider loans, tax between the UAH and the USD, which unfor- games and insufficient provisioning. tunately is still being kept, and the capacity The change in the political landscape in 2010 to transmit the foreign exchange risk to the led to a change also of the management team economic sectors thanks to development of of the NBU. Thanks to the IMF support, some forwards, that was made possible mid-2011, positive changes were decided, as minimum but in very restrictive way, for a very small capital already mentioned, reinforcement of market which is one way sofar.

Conclusion

As of the end of November 2011, the Ukrainian Banks have evidenced their resilience in the 2008 banking sector remains one of the worst rated crisis and have been provided with the required by the rating agencies. Its operating environ- capital, their capitalization today being adequate. ment is “weak” because of its slow growth Banks have developed again in 2011 their and could be hit by a possible recession in loans to the population, but in UAH only. the west. Its profitability remains weak. The nonperforming loans, as well as restructured And the western banks present in Ukraine loans account for +/- 40 percent of its gross have continued to decrease their relative loans still. And the UAH currency funding is presence, having achieved a 10 percent mar- made difficult, because of devaluation fears ket share drop over the last 3 years. and the decision by the authorities to prevent 2012 will be a challenging year for banks in such event. All those reasons led all banks to Ukraine, the increase of their lending activity stop to increase their loans for the time being. being very probably limited.

2. Currency Control

In Ukraine, Currency Control is very strict • Residents and non-residents may export and complex. It is governed by laws and by and/or import without declaration the regulations of the National Bank of Ukraine equivalent of 10 000 EUR. (NBU). Regulations frequently change, there- Amount exceeding equivalent of 10 000 EUR fore please consult your banker. should be accompanied with a written dec- The purpose of Currency Control is to pre- laration. For amount exceeding 10 000 EUR vent the illegal export and import of valu- the confirmation from the bank evidencing ables, goods, services, and the transfer of that funds were withdrawn from the indi- funds abroad, as well as to control the timely vidual’s account should be presented. settlement of payments for goods and servic- • Funds at disposal (possibility to withdraw cash es under external trade contracts. wired from abroad without account opening): For individuals disposable funds are limited per transaction Import/Export of cash: and per day to the equivalent of 50 000 UAH (applicable for residents and non-residents).

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Non-commercial transactions: Main documents used to per- • Wire transfers in foreign currency are lim- form Currency Control: ited to equivalent of 15 000 UAH per day For sales/purchases of goods: trade contracts, without account opening for residents and customs declarations, invoices. non-residents. But for residents — without supporting documents; for non-residents — For services (including royalties): contracts and with confirmation of the source of money. documents proving that services were pro- vided. When such services provided by same • Wire transfers in foreign currency in amount foreign supplier exceed equivalent of 100 000 which exceeds the equivalent of 15 000 UAH EUR it is required to obtain in addition from a per day can be done by residents and non- designated state entity (Derzhzovnishinform) residents from the current account (for resi- a certificate on price relevance. dents with supporting documents, for non- residents — without supporting documents). For capital market divestments incl. dividend payments: investment agreement and a doc- For more details, please ask your banker. ument proving that investment was made and For commercial operations/ registered in Ukraine. companies If shares are sold by a non-resident, or if a di- vestment originally was made in kind and the The following administrations are involved in proceeds are to be repatriated, an “estimation the currency control process: certificate” issued by a licensed Ukrainian • Customs — it controls the export/import of appraiser is required. In addition, cash di- goods and valuables. vestments of investments made in kind must • Banks — authorised by the National Bank of have been made possible by a treaty between Ukraine, control all operations and inform Ukraine and the divestor’s country. the NBU and State Tax Service (STS) in case For cross-border loans: loan agreement, NBU of violations and are liable if such control is registration notice, and local bank's consent not executed properly. to service such a loan. Main types of activities subject For currency purchases: contracts, invoices to Currency Control and some and custom declarations as mentioned above. key rules or constraints: Purchased Foreign Currencies must be trans- ferred within ten banking days. • Export/import of valuables, goods and ser- vices: 3. Anti-money • Exporting companies should receive payment within 180 days after shipment of goods. laundering set-up in • Importing companies can pre-pay 100 per- cent but should receive goods or services Ukraine within 180 days. Anti-Money Laundering measures are regu- • Capital market operations (sale/purchase lated by a new Law “On prevention and coun- by non-residents of domestic securities; teraction to the legalization (laundering) of sale/purchase by residents of foreign secu- the proceeds from crime” of May 18th, 2010, rities; dividend payments abroad, etc.). #2258-VI (hereinafter the Law) and for the • Cross-border loans (loans granted by non- banks by NBU Regulation #189 “On perfor- resident lenders). mance by the banks of financial monitoring” in the edition of NBU resolution #22 dated • Currency purchases.

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January 31st, 2011 and registered in the Min- • subjects of economic activity conducting istry of Justice of Ukraine on April 7th, 2011 lotteries and gambling games including ca- (hereinafter the Resolution). sinos and electronic (virtual) casinos; In the context of the Law “legalization (laun- • notaries, law firms, auditors, audit com- dering) of the proceeds from crime” are any panies, physical persons-entrepreneurs actions related to funds (property) received as rending accounting services, subjects of result of a crime aimed at the concealment of entrepreneurial business rendering legal the origin of said funds (property) or assistance services; a 2010 novelty! to a person who is accomplice in said crime. • physical persons-entrepreneurs and le- The Law excludes tax crimes from the list of gal persons executing financial operations crimes subject to it. Laundering in Ukraine is with goods (rendering services, performing related to prostitution, drugs, arms, terrorism works) for cash in case the amounts of said and other crimes. This “understanding” of the operations equal or exceed 150 000 UAH or its Law is still not perfect, i.e. authorities are in- equivalent in foreign currencies; new in 2010! clined to include tax crimes also. • other legal persons rendering the financial The system of financial monitoring consists services which are not financial institutions of two levels: the initial and the state levels. by their legal status. A 2010 novelty also! The following entities are involved in/subject The following entities are involved in the state of the initial level of financial monitoring: level of financial monitoring: • banks, insurance (reinsurance) companies, • National Bank of Ukraine credit unions, pawn-shops and other finan- • Ministry of Finance of Ukraine cial institutions; • Ministry of Justice of Ukraine • payment organizations, members of pay- ment systems, acquiring and clearing insti- • Ministry of Transport and Communication tutions; of Ukraine • commodity, stock and other exchanges; • Ministry of Economy of Ukraine • professional operators in securities market; • State Ukrainian Commission of Securities and Stock Market • asset management companies; • State Ukrainian Commission of Regulation • postal operators and other institutions ex- of Financial Services Markets ecuting the financial operations of funds transfers; • State Committee of Financial Monitoring or Financial Monitoring Unit (hereinafter FMU) • branches and representative offices of the foreign subjects of economic activity ren- FMU is a 237 persons staffed central body of dering financial services in Ukraine; executive power whose head is nominated by the Cabinet of Ministers of Ukraine. FMU ac- • subjects of entrepreneurial business ren- tivity is directed and coordinated by the Cabi- dering the intercessory services during the net of Ministers of Ukraine via the Minister of execution of sale-purchase real estate op- Finance of Ukraine. erations; • subjects of economic activity executing the Financial transactions subject trade of precious metals, precious stones to compulsory financial and related goods for cash in case the monitoring: amounts of related operations equal or ex- ceed 150 000 UAH or its equivalent in for- A financial transaction shall be subject eign currencies; to compulsory financial monitoring if its

21 Uniting Leading Companies from over 50 Nations Across the Globe

amount equals or exceeds 150 000 UAH or its institution, which is based on defined subjec- equivalent in foreign currencies (for subjects tive criteria. of economic activity conducting lotteries and FMU has right to stop for up to five business gambling games — 13 000 UAH or its equiva- days all debit operations on a customer’s ac- lent in foreign currencies) and if such financial counts in case said customer’s operations are transaction also has one or more of the specific suspected to be related to money laundering. features stipulated in the Article 15 of the Law, i.e. if certain objective criteria are being met. Subjects of the initial level of financial moni- When both conditions are fulfilled, reporting to toring are obliged to “know their customers” FMU is compulsory. All insurance related in- and able to prove it. I.e. in their files there comings or payments above 150 000 UAH must should be the evidence that their customers- be reported, for instance. legal persons, physical persons, banks and other financial institutions have been identi- Financial transactions fied according to the identification rules de- fined by the Law and, and for banks by the subject to internal financial Resolution that includes also identification of monitoring: the ultimate/beneficial owners (“controllers”, >=50 percent ownership) of the customers, • A non-standard or a complicated finan- the shareholders (“owners of essential par- cial transaction or several related financial ticipation”, >=10 percent ownership) and the operations that have no evident economic managers/authorized persons of the cus- sense or obvious legal purpose. tomers. Identification rules also prescribe to • A financial transaction that is not compliant identify non-resident politically exposed per- with the activity of the client of the subject sons (PEP) among customers, their “control- of the initial level of financial monitoring. lers”, their “owners of essential participation” and their managers/authorized persons. • Repeated financial transactions the nature of which gives the grounds to believe that Banks that are subjects of the initial level of their purpose is to evade the procedures of financial monitoring are obliged to classify compulsory financial monitoring. the customers by their risk appreciation for such customers to perform money launder- • Financial operations defined by the ty- ing operations. Such classification has to be pologies of the international organizations performed in accordance with the Resolution fighting against money laundering. requirements considering the criteria de- Internal financial monitoring (article 16 of fined by FMU. The Resolution also requested the Law) can also be applied to other finan- the banks to classify the customers by their cial transactions when subjects of the initial reputation. level of financial monitoring have grounds to The Resolution requires from the banks the believe that such financial transactions are compulsory maintenance of electronic KYC aimed at legalization of “laundered” proceeds. forms (“anketas”) of prescribed format in Subjects of entrepreneurial business render- Ukrainian. Said “anketas” are to be stored and ing the intercessory services during the exe- must contain all historical data of the banks’ cution of sale-purchase real estate operations relationships with the customers. The levels have to perform internal financial monitoring of the customers’ risk and reputation must be in case the amounts of said operations equal indicated in the customers’ “anketas”. or exceed 400 000 UAH or its equivalent in The Resolution also requested the banks to ana- foreign currencies lyze quarterly the customers’ operations as to Reporting to the FMU on a financial transac- their correspondence to the customers’ financial tion subject to internal financial monitoring is state and activity nature. Results of such analy- the result of an assessment by the reporting ses must be fixed in the customers’ “anketas”.

22 www.chamber.ua Prepared by: Banking & Financial Services

The Resolution obliged the banks: maintenance. This is a questionable move for • to put into correspondence with the Resolu- Ukraine, where counter powers need still to be tion requirements their internal documents developed, where the rule od law is not prev- regarding financial monitoring (programs, alent, and where the independence of State rules etc.) within 1 month after the Resolu- Regulators and Supervisors still is questioned. tion became effective; * * * • to make the identification of the customers After more than eight years of implementa- with high risk in accordance with require- tion, the anti-money laundering set-up in ments of the Law and the Resolution within Ukraine resulted in 6 471 299 transactions 2 months after the Resolution becomes ef- reported to the FMU by the subjects of the fective; initial level of financial monitoring as of De- st • to make the identification of the custom- cember 31 , 2010. ers with other risks in accordance with re- As of December 31st, 2010 among the subjects quirements of the Law and the Resolution of the initial level of financial monitoring reg- within 6 months after the Resolution be- istered by FMU there were 176 banks as well came effective. as 6329 non-bank institutions. The Law and the Resolution cover also “ter- In 2010 819 542 transactions were reported to rorism” related activities. Based on a list of FMU, of which 787 912 (96.14 percent) trans- terrorists provided by the FMU the subjects actions were reported by banks. 72 percent of the initial level of financial monitoring are reported transactions were subject to the required to prevent for up to two days a finan- compulsory financial monitoring. cial operation to be executed, if a participant In 2010 188 857 reports received by FMU were or a beneficiary of a transaction is a person taken into active work and resulted in the included in such list. FMU has the rights to ex- creation of 1706 dossiers. Following to further tend such time to up to twelve business days. analyses only 667 dossiers were delivered to The Law and the Resolution in many aspects Ukrainian enforcement bodies in 2010. In respect international AML practice (for in- 2010 only 106 criminal cases were initiated stance, the extension of the entities to be sub- and delivered to the courts as a result of re- jects of the initial level of financial monitoring, porting to FMU. identification of PEP, customers risk-based As of December 31st, 2010 the courts consid- classification) but they substantially increase, ered only 65 cases. Court decisions led to the first, the volume of transactions that are sub- arrest of funds and property for the amount of ject to compulsory financial monitoring and 198.2m UAH and to the confiscation of funds mandatory reporting to FMU, and, second, and property for the amount of 15.2m UAH. The the volume of processing work related to the efficienncy of such set-up is to be improved. customers’ identification and their “anketas”

23 Uniting Leading Companies from over 50 Nations Across the Globe 3. CUSTOMS REGULATION

Customs duty planning: practical aspects

Mr. Igor Dankov Senior Manager and Mr. Robert Zeldy, Senior Consultant, PwC Ukraine

In accordance with Ukraine’s Law “On Uni- post-entry customs audits. Underpayment of fied Customs Tariff” and the Tax Code, cus- duty is subject to a 25 percent or 50 percent toms duty is tax on goods moved across the penalty plus late payment interest, as well as Ukrainian border. Failure to pay the customs an administrative penalty to the company’s of- duty would disallow the person from import- ficials (up to UAH 17,000) and criminal pros- ing goods into Ukraine. ecution in case of a deliberate underpayment. Customs duties are non-recoverable, and their Careful customs duty planning would help average rates are 11 percent for agricultural reduce costs and avoid potential disputes goods and 5 percent for industrial goods. Un- with the customs authorities which may der the Tax Code, customs duties are deduct- result in delays of customs clearance and ible for corporate profits tax purposes. penalties for non-compliance. This article The Ukrainian customs authorities control attempts to discuss the practical aspects of the payment of customs duties at the moment customs duty planning with recommenda- of customs clearance of the goods, or during tions wherever appropriate.

Factors that impact the amount of customs duty payable

Customs duty planning starts with answering single tariff code with a lower duty rate? the following questions: • Can we claim exemption from customs du- • Are the goods properly classified for cus- ties under a free trade regime? toms purposes? • Is it possible to get a duty exemption by • Are there any expenses that can be exclud- contributing property to the capital of a ed from the customs value? Ukrainian legal entity? • Should we accept the higher customs value • Can we delay payment of duties by placing defined by the customs authorities? the goods in a customs bonded warehouse? • Can we classify complex equipment under a • Can we get an exemption from duties

24 www.chamber.ua Prepared by: Customs Regulation

through the use of the inward processing If the answer to any of these questions is yes, regime? all you need to do is implement planning op- • Is there a full exemption from duty for tem- portunities! porarily imported goods? We will discuss all of these opportunities in • Is there prospective legislation which would more detail below, and useful hints will be help me to more effectively plan customs provided. duty payment in the future?

Proper classification of goods for customs purposes

The rate of duty depends on the tariff clas- portation, they will be dutied separately and sification of goods. For example: the overall total duty payable may be less. • Goods which are imported unassembled In difficult cases, it may be prudent to re- or disassembled are dutied as if they were quest an advance classification ruling of the complete or finished. So, if the duty rates on customs authorities. This process should be imported components are higher than the started well in advance, and prior to actual rate on the product that will be made from import of the goods, as the customs authori- them, a lower duty might be paid if the arti- ties will require up to 60 days to issue a ruling. cle were imported in the form of a complete Important: while classifying goods for cus- set of parts, than if the components were toms purposes, it is important to comply with imported separately in bulk. the main classification rules laid out in the • Goods put up together in sets are classi- Customs Tariff. Failure to do so may result in fied as if they consisted of the component an incorrect classification, and thus under- which gives them their essential character. payment or overpayment of customs duties. However, if these components are imported If required, consult professional advisors. separately in bulk for assembly after im-

Expenses that can be excluded from the customs value

Reducing the customs value by allowable de- • The cost of transport after importation. Im- ductions diminishes the amount of ad valo- portant: the amount of the deduction should rem customs duty. be properly substantiated and supported by In most cases, the customs value of imported documentation. If an excessive amount is goods is the transaction value, that is the price deducted without proper justification, the actually paid or payable for the goods sold for customs authorities may challenge this; export to Ukraine, adjusted for certain ex- • Loading, unloading and handling charges penses stipulated by the Customs Code. For associated with the transport of the im- instance, the following expenses may be de- ported goods after the place of importation; ducted from the customs value:

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• Buying commissions. Important: buying bly, maintenance or technical assistance, commissions should represent fees paid by undertaken after importation of goods such the importer to the importer’s agent for the as industrial plant, machinery or equipment. service of representing the importer abroad Important: these charges would not be in- in the purchase of the goods being valued. In cludible in the customs value, provided that other cases, the charges would not qualify as they are distinguished from the price actu- buying commissions and would not be eligi- ally paid or payable for the imported goods. ble for deduction from the customs value; In case of frequent imports, duty savings may • Charges for construction, erection, assem- be substantial.

Acceptance of a higher customs value defined by the customs authorities

The customs authorities often challenge the the customs administration of a higher level declared customs value and define it at a sig- and/or to the court. However, appeal by a ju- nificantly higher level. In case of a disagreement dicial procedure can take a very long time — with such a decision, the declarant is entitled up to a year or longer. to ask the customs administration to release Important: the procedure for releasing goods the declared goods into free circulation with under guarantee obligations is recommended the payment of taxes computed based on the to be applied when a judicial appeal is antici- customs value determined by the customs of- pated. The release of goods under guarantee fice. The customs authorities would keep these obligations will serve as additional evidence funds as the importer’s guarantee obligations. of the declarant’s disagreement with the deci- The term of guarantee obligations should not sion of the customs authorities on the deter- exceed 90 calendar days from the moment of mination of the customs value for the court. the release of the goods into free circulation. Also, if the importer decides to go to court, it During this period, the importer may submit is necessary to document the impossibility to additional documentation supporting the de- present additional documents to customs or to clared value to the customs authorities. request the customs authorities to explain in If the customs authorities accept the declared writing how the customs value was defined, etc. value, the amount of overpaid taxes will be re- It is recommended to expedite the documents turned to the declarant within 30 days after the endorsing the customs value while clearing customs authorities pass the relevant decision. the goods in order to reduce the risk of dis- If the customs authorities do not accept the putes arising with customs on the determina- declared value, the declarant may appeal to tion of the customs value.

Classifying complex equipment under a single tariff code with a lower duty rate

Briefly, for customs purposes, complex equip- • Obtaining an advance classification ruling ment represents the set of units which, if as- from the customs authorities; sembled, should be classified under a single • All units should be imported within the pe- tariff code. The process works as follows: riod specified by the customs authorities;

26 www.chamber.ua Prepared by: Customs Regulation

• If import deadlines are not kept, the cus- under a separate tariff code and assess cus- toms authorities would reclassify each unit toms duties and VAT.

For example:

Description of goods Tariff code Customs duty Classified under a single code: Packaging equipment 8422 400090 0% Classified under multiple codes: Units: panels and consoles 8537 109990 5% Motors, power units 8408 905100 5% Belt conveyer 8428 339000 0%

This example demonstrates that the clas- tion under multiple codes (per unit) attracts sification of equipment under a single code 5 percent duty on certain units. attracts a 0 percent duty whereas classifica-

Claiming an exemption from customs duty under a free trade regime

Ukraine has concluded free trade agreements ian buyer and a seller resident in the rel- which allow duty-free import of goods from evant CIS country that signed the free trade the following countries: Armenia, Azerbaijan, agreement with Ukraine; Belarus, Georgia, Kazakhstan, Kyrgyzstan, • The goods should be introduced into Ukraine Macedonia, Moldova, Russia, Turkmenistan, directly from relevant country (i.e., without Uzbekistan and the European Free Trade As- crossing other countries or if crossing the sociation (not effective yet). other countries — the goods must be under In order to receive an exemption from Ukrain- customs control all the time). ian customs duty, goods imported from CIS Important: if the duty rate is material, con- countries and Georgia should satisfy the fol- sider sourcing the goods from countries that lowing requirements: have concluded free trade agreements with • Preferential origin of goods from these coun- Ukraine. If possible, make sure that the con- tries should be supported by certificate ST-1; ditions of free trade are met; otherwise, there • Goods should be imported into Ukraine will be no duty exemption in Ukraine. based on a contract between a Ukrain-

Obtaining a duty exemption through contributing property to the capital of a Ukrainian legal entity

Property (except for goods for resale or own • During customs clearance of such property, consumption) contributed by a foreign share- the importer should issue a promissory note holder to the capital of a Ukrainian legal en- for the amount of the customs duty with a tity is exempt from customs duty as follows: maturity period of 30 calendar days from the issue of the import customs declaration;

27 Uniting Leading Companies from over 50 Nations Across the Globe

• The importer would need to record the Important: if property is disposed off (ex- property on its balance sheet within this cept for export in case of company liquidation) period, and to receive confirmation from within 3 years after being recorded in the ac- the tax authorities in writing; counts, the customs duty becomes payable. • The customs authorities cancel the promis- sory note, and customs duty is not paid.

Delaying payment of duty through placing goods in a customs bonded warehouse

A customs bonded warehouse is an appropri- warehouse may be used for delaying payment ately equipped facility for the storage of goods of customs duties and other import taxes. under the control of the customs authorities. Important: the necessity of placing the goods It is possible to store the imported goods in a in the customs bonded warehouse should customs bonded warehouse for three years. be substantiated to the customs authorities. Customs duty and other import taxes are paid Otherwise, the customs will not issue the only upon the release of the goods from the relevant authorization. warehouse. Therefore, in certain cases, the

Obtaining an exemption from duties through the use of the inward processing regime

In Ukraine, the inward processing procedure are owned by a non-resident customer and is realized through the duty suspension sys- the Ukrainian manufacturer renders pro- tem. This means that goods imported for pro- cessing services for a fee). It is advisable cessing are exempt from import duty. How- to consider the requirements of Ukraine’s ever, the amount of customs duty payable Tolling Law before the actual import of raw should be secured by a promissory note is- materials for processing in order to verify sued for a period not exceeding 90 days. When whether the processing would be qualified the processed products are re-exported, the as toll manufacturing. If there are doubts as promissory note is cancelled. to whether the transaction qualifies as toll- Important: Currently, duty exemption is ing, it may be prudent to obtain a written ex- available only for toll manufacturing (i.e., pertise of the Ministry of Economic Devel- where the raw materials and finished goods opment and Trade of Ukraine.

Full exemption from the duty for goods imported temporarily

In general, a full exemption from customs duty is with certain additional items provided for by the applied to the temporary import of goods quali- present Customs Code (such as marine and river fying for the Convention on Temporary Admis- ships, aircraft imported for repair, and equipment sion (also known as the Istanbul Convention) used for repair or construction of these items).

28 www.chamber.ua Prepared by: Customs Regulation

Partial exemption is available only in respect Goods or items imported temporarily which do of VAT, and for the temporary import of goods not fall under the Istanbul Convention would used for production or work projects. Partial be subject to regular customs duties and VAT. exemption implies that VAT payable is com- Important: the customs authorities often puted as 3 percent of the total amount of challenge full exemptions from duty by claim- VAT multiplied by the number of months of ing that the goods do not fall under the Istan- temporary admission. At the time of writing, bul Convention. It is recommended analysing partial exemption from customs duty is not eligibility for a full exemption from duty prior available. to the import of the goods.

Return of goods

Goods originating from Ukraine (except for Important: it would be necessary to evidence sugar, confectionary, goods made in Ukraine the Ukrainian origin of goods (e.g., through based on tolling arrangements with a non-resi- submission of the certificate of origin) to the dent customer, etc.) are exempt from duty upon customs authorities. Otherwise, the customs re-import into Ukraine. Thus, for instance, if authorities would not grant exemption from the goods were exported from Ukraine and then customs duty. are returned due to a contract breach, etc. such import would not be subject to customs duty.

Prospective legislation which would make planning customs duty payments more effective in the future

There is a draft Customs Code which offers • For goods imported after outward process- dramatic changes to customs legislation and ing customs duty would apply on value expands customs duty planning opportuni- added abroad; ties. Here is a selection of those opportunities: • Inward processing would become more flex- • Goods imported temporarily which do not ible, allowing duty free import of raw mate- qualify for full exemption from duty would rials for processing based on purchase con- be eligible for a partial exemption from tract; the term of processing may be extended customs duty. Similar to VAT, the importer to 365 days; the Ukrainian importer may would compute duty payable as 3 percent of process imported raw materials into finished the whole amount, multiplied by the num- goods that would be released into free circula- ber of months of temporary import; tion after payment of customs duty and VAT; • In case of re-export, import customs duty equivalent goods may be used in processing. may be reimbursed (but certain conditions This would also allow for more opportunities. should be satisfied). This provision may be It is recommended to consult with professional applied to goods that were previously im- advisors in advance because correct applica- ported, and then returned due to a breach tion of the existing possibilities in the customs of the sale contract; legislation may not only reduce the amount of • The import of goods after warranty repairs customs duty paid, but may also help in avoid- abroad would be exempt from customs duty; ing future penalties for non-compliance.

29 Uniting Leading Companies from over 50 Nations Across the Globe 4. FMCG MARKET Retail sector overview

1. Macroeconomic overview

The Ukrainian economy is gradually improv- percent. According to the World Bank fore- ing but the recovery remains fragile. In 2010 cast made in June 2011 growth in 2011—2013 the country’s GDP grew by 4,2 percent and in is expected to remain between 4—5 percent. the first 6 months of 2011 the growth was 4,4

Real GDP, % change y/y

Source: World Bank

The structure of the GDP indicates the in- slowed down to 6,4 percent and its contribu- creasing role of the household consumption tion to the overall economy growth decreased, that makes up almost 65 percent of the na- whilst retail turnover grew by 15,2 percent on tional GDP. YoY basis and became one of the key sectors According to the State Statistics Service in driving the economy development. At the same September 2011 the industrial output growth time the retail turnover growth is significantly

30 www.chamber.ua GDP structure by final consumption category

Source: State Statistics Service of Ukraine

ahead of the real wages growth which is an in- ranking. Although the country has improved dicator of the high domestic demand. its position in terms of starting up a business In 2011 so as in 2010 Ukraine was not listed it got bad ranking for getting the construction in the annual ranking of the top 30 develop- permits (180 out of 183) and paying taxes (181 ing markets attractive for retail expansion by out of 183) and worsened the position in pro- A. T. Kearney (Global Retail Development In- tecting investors (111 out of 183). dex). In 2007 the country took the 5th position National currency instability remains one in the ranking and although in 2008 and 2009 of the key factors that makes conducting in the peak of the financial crisis it dropped to business in Ukraine less predictable. The the 17th place, A.T. Kearney stated it was high country has entered the autumn of 2011 time to enter Ukrainian retail market due to a with high currency devaluation expecta- very low cost of entry. For the second year in tions. According to the regular National a row according to A.T. Kearney the Ukrain- Bank of Ukraine research in the third quar- ian market has lost its attractiveness for the ter of 2011 almost 60 percent of the Ukrain- global retailers’ expansion. ian businesses were expecting national cur- The overall investment appeal of the country rency devaluation as compared to USD. The was influenced by the economic and political further national currency exchange rate instability as well as worsening of the invest- depends on a complex of factors including ment climate which resulted in Ukraine be- the political situation, the situation with ing ranked 152 among the 183 countries in National Bank of Ukraine reserves and the the World Bank’s annual Doing Business 2012 conditions of the annual gas deal.

31 Uniting Leading Companies from over 50 Nations Across the Globe

Source: National Bank of Ukraine

Source: World Bank

32 www.chamber.ua Prepared by: FMCG Market

2. Consumer behavior

Ukrainian consumers adjusted to the post cri- pectations for the first time since period be- sis conditions and became very rational and fore crisis in 2008. disillusioned due to the low trust to the govern- The main driver of the CCI improvement in ment and deterioration of the quality of life due October was considerable growth of the pro- to the economic crisis (in September 2008 — pensity to consume (х5); this trend was the st May 2009 Ukraine took the 1 place in the most vivid among respondents with income global ranking of countries most affected by higher than average. The growth of index х5 crisis done by Carnegie Endowment). Ac- occurred along with small increase of Indices cording to Nielsen, Ukraine is now #12 of the of the Current Situation and Inflationary Ex- most pessimistic countries out of 28 European pectations. The last one was significantly af- countries with over 75 percent of people be- fected by high expectations of the devaluation lieving that it is “bad” and “not so good” time of Hryvnia. Along with the general increase of for spending money and making purchases CCI, expectations in two groups declined: in (as of Q3 2011). the group of citizens with income lower than According to GFK Ukraine in October 2011 average — due to the decline in expectations Consumer Confidence Index (CCI) has im- over the next year; and in the group of citizens proved. The relevant index was 78.6 which is from Western Ukraine — due to higher pes- 3.9 p. higher than the indicator value in Sep- simism regarding economic changes over the tember. Index of the Current Situation was next year and the next five years as well. somewhat higher than Index of Economic Ex-

Dynamics of the Consumer Confidence Index in Ukraine

Month, Consumer Index of the Index of Index of Index of year Confidence Current Economic Inflationary Expectations of Index (CCI) Situation Expectations Expectations Changes in (ICS) (IEE) (IIE) Unemployment (IECU)

10’11 78.6 79.1 78.3 186.8 135.3

09’11 74.7 72.8 75.9 184.6 125.0

10’10 83.6 78.7 86.8 183.8 119.5

According to the State Statistics Service the cent Ukrainians earned more than 3500 average wages in Ukraine in January-Sep- UAH monthly. Still there are 6,8 percent of tember 2011 was 2571 UAH with the highest people who do not earn even the basic state indicators in Kyiv, Kyiv oblast and Dnipro- fixed minimum wages which amounts to petrovsk oblast. 960 UAH. The country still has high sala- The overall well-being of the population ry debt which according to the State Sta- remains quite low although the quantity tistics Service in September 2011 amounted of people that have higher wages gradu- to almost 1,2 billion UAH but it is gradually ally increases. In June 2011 over 22,3 per- decreasing.

33 Uniting Leading Companies from over 50 Nations Across the Globe

Source: GFK Ukraine

Percentage of employees by average wages in June

Source: State Statistics Service of Ukraine

According to the State Statistics Service with increasing prices for utility services (gas, Ukrainian households spend over 50 percent electricity, etc.) on the third place — 26 percent. of their monthly budget for food and first At the same time the prices for consumer goods need products which is one of the highest in- and utility services remain the key inflation fac- dicators in Europe. tors in Ukraine. According to the State Statistics The growth of prices for consumer goods and Service in January-September 2011 the prices services remains the biggest pain for Ukrain- for food and soft drinks increased by almost 8 ian consumers. According to Nielsen in Q3 percent as compared to the same period in 2010. 2011 28 percent of Ukrainians ranked the in- And the inflation for utility services amount- creasing food prices as the topic that worries ed to 19,2 percent. The overall inflation in the them most of all, compared to 35 percent in country slowed down as compared to the crisis the same period in 2010. The number two is- years of 2008–2009 and amounts to 9 percent sue for Ukrainians is the health — 27 percent (cumulative for January-September 2011).

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Household expenditure and savings of Ukraine for Q2 2011

Source: State Statistics Service 3. Retail market overview

Ukraine still has quite low share of modern The overall retail turnover in Ukraine in Janu- retail — around 25 percent. Mostly modern ary-October 2011 grew by almost 15 percent retail outlets are concentrated in the capital and amounted to 546,89 billion UAH. The re- and big regional cities. The market is domi- tail turnover of the enterprises in the same nated by domestic retailers, most of which period grew by 14,1 percent and amounted to operate on a regional level. 280,27 billion UAH which is around 51,2 per- There are still few international companies cent of the overall retail turnover. Accord- operating in Ukraine and the major investors ing to the State Statistics Service in 2010 60,5 are METRO GROUP, Auchan, Billa, Praktiker percent of the retail turnover was made up by and OBI. METRO GROUP is one of the biggest the non food products. international investor to the Ukrainian retail Retail formats in Ukraine have different market having contributed around 500 million meaning as in Europe and are adapted to euro to the country’s economy with 7200 jobs the specificities of the local market. For ex- created since its entry to the market in 2003. ample, the ‘cash&carry’ format implemented

The top 5 retailers on the Ukrainian market according to Planet Retail in 2010.

2010 2010 2010 2010 2010

Company Number Of Total Sales Average Sales Grocery Grocery Outlets Area SQM Area SQM banner Market sales(EUR) Share % Fozzy 350 284 220 812 1 249 960 783.34 4.84

ATB Market 457 297 050 650 1 043 849 421.94 4.04

Metro Group 27 236 200 8 748 663 476 646.39 2.57

Furshet 115 184 000 1 600 551 916 084.42 2.14

Retail Group 52 108 300 2 083 349 018 084.42 1.35

Grand Total 1 001 1 109 770 1 109 3 858 221 020.51 14.94

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by Ukrainian companies means a substantial any Perekrestok openings and may even divest proportion of sales is made by end consum- from Ukraine, whereas SPAR intends to expand ers. Hyper- and supermarkets often deter- across the country through its franchisee. mine low prices to attract more customers. Neighborhood stores are of immense im- Discounters offer an expanded product range portance to the national food supply. These and have still a very low share of own brands outlets are usually supplied by thousands of in comparison, for example, to Germany’s regionally operating, small-scale wholesale discounters. Convenient stores have higher businesses. Neighborhood stores are mostly floor space (150–550 sq. m.) and broader as- Soviet-style outlets operated in a quite out- sortment (2–2.5 articles). dated manner with old equipment and no Supermarkets and neighborhood stores along modern approach to marketing and mer- with cash & carries are the leading formats chandizing. METRO Cash & Carry Ukraine is in Ukraine but still the share of not organized running its Trader Support and Partnership trade (open markets, kiosks, not chained stores) program to help its professional Trader cus- is very high. The majority of stores are oper- tomers to develop their corner shops in line ated by local players such as Fozzy Group, ATB with the modern retailing standards. Market, Furshet and Velyka Kyshenia. Among Ukraine still has a relatively low quantity of foreign retailers, the key player is Auchan that hypermarkets and within the crisis 2008– is operating from 2008 in Ukraine and already 2009 years it was majorly supermarkets and opened 8 stores in major big cities. Other for- neighborhood shops that continued the ex- eign investors are Rewe with its Billa outlets, pansion. According to Nielsen in 2010 the followed by a tiny network of Perekrestok major numeric growth was displayed by the stores (X5 Retail Group) and SPAR outlets. Hav- minimarkets channel. ing a relatively limited quantity of stores Rewe is set to speed up its expansion and open around The format which has become more and more ten stores each year, predominantly in towns popular within the recent years is the so-called with over a million inhabitants. X5 does not plan discount store or economy supermarket which

Formats of modern trade

Source: Nielsen Ukraine

36 www.chamber.ua Prepared by: FMCG Market is actively developed by the market leaders Fora In the cash & carries segment there’s a clear (belongs to FOZZY Group) and ATB Market. Ac- market leader METRO GROUP which is com- cording to GFK research discounters become mitted to continue the investment to the more and more popular increasing the quantity country planning to open up to 20 more stores of customers and the volume of the purchase. investing 1 billion UAH by 2013. METRO Cash The financial crisis has stimulated the retail- & Carry Ukraine has as well started to develop ers to develop new store formats and react to smaller format — METRO Baza — opening two the regional needs more flexibly. In 2010–2011 new stores in Western Ukraine in 2011. almost all the key market players continued Along with the expansion in 2011 there has their expansion. According to the GT Partners been market drop outs. In summer 2011 the in 2010 Ukrainian grocery retailers opened regional hypermarkets operator Rainford 245 new stores and within the first half of 2011 from Dnepropetrovsk decided to leave the there were 177 more stores opened. The lead- Ukrainian retail market, selling or leasing er in expansion is ATB Market that in the first some of their stores to FOZZY Group. 6 months of the year opened 36 new discount stores mostly in the Eastern Ukraine.

Source: GFK Ukraine

4. Future of the market

Although due the effect of the financial crisis coming EURO 2012 football championship that and current economy instability Ukrainian re- will be hosted by the country in June-July 2012. tail market has lost its high attractiveness it If the country will be able to overcome eco- still looks very potential with regard to the low nomic instability, administrative barriers and share of chained retail trade and significant low consumer spending retail market devel- room for growth for the modern retail formats. opment might speed up. At the same time the The big hope for Ukrainian economy overall market might see more merges and acquisi- and the retailing industry in particular is the tions due to the fact that small retailers face

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more and more problems with their liquidity when the prices are not lower than those of the and access to funds and are forced to put their A-brands. While in non food own brands are businesses up for sale. In the mid-term per- growing due to the lower prices. spective the market would still be dominated The biggest growth is seen in those categories by the local players but one can not exclude the where the prices of own brands are signifi- interest on behalf of the Western retailers, es- cantly lower than that of the A-brands (up to pecially when they will explore the neighboring 30 percent). Russian market’s potential to the full. METRO Cash & Carry Ukraine is one of the mar- Big potential for the Ukrainian retailers lies in ket leaders in terms of own brands development the development of own brands. According having introduced its own brands in 2003 — from to Nielsen Ukraine own brands sales share in the very start of the operations in Ukraine. The Ukraine is on the level of 5,4 percent (Nielsen wholesaler has over 2000 own brand articles un- Key Accounts Index, Q1 2011) which is signifi- der the 6 strategic own brands — SIGMA, ARO, cantly lower than on developed markets of the H-line, HoReCa Select, Fine Food \ Fine Dream- European Union. At the same time own brands ing and Rioba. In 2011 METRO Cash & Carry demonstrate high dynamics of sales growth Ukraine launched the unique own brand solution which according to Nielsen Ukraine exceeds Rioba providing everything needed to operate a 64,2 percent (Nielsen Key Accounts Index, Q1 branded caf — from high quality coffee to cof- 2011 vs. Q1 2010). According to Nielsen Ukraine fee machine, branded crockery and outfit for the in such popular food categories as sun flower staff. The first Rioba coffee bar was opened in oil, mayonnaise, ketchups, dried fish snacks the summer in the biggest national airport Boryspil share of own brands is growing even in case and the wholesaler plans to expand the concept.

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Beer & Kvas Market Overview

1. Review of the Ukrainian beer market

Since 2008, the beer market has been experi- Compared to last year, beer consumption per encing stagnation period. The first increase at capita has not been changed. It was 57 liters of the beer market was observed in 2010 — then beer per 1 person as in 2009–2010, although, the market growth made +3.6 percent. In 2011, before the crisis, the number constituted it again experienced a drop at -1.7 percent. 60 liters per 1 person. Unfavorable weather conditions were one of In 2011, middle-price segment suffered the reasons of the market drop. Besides, the market most. It has been showing decline over the situation was affected by the growth of com- last few years. At the same time, premium modity prices, which was due to poor harvest. and lower middle segment continued to grow.

Dynamics of beer market 2006–2011, mln liters

Source: analytical company АС Nielsen

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Beer consumption per person

Year 2005 2006 2007 2008 2009 2010 2011

Beer consumption 45 50 60 61 57 57 57 per person, liters

Source: inner data of Carlsberg Ukraine

Segments of beer market volume, KHL

Source: Ukrbeer Association

In correlation of packaging, which consum- neighboring Russia, but there both volume ers prefer, the situation has not changed since of alcohol consumption per capita and the last year. According to internal data of Carls- share of consumption of vodka are much berg Ukraine, consumer preferences for types higher than Ukrainian indices. Comparing of packaging can be evaluated as follows: 40 with the data of European countries, we can percent glass bottle, 7 percent — can, 11 per- conclude that uneven structure of alcohol cent — keg, 42 percent — PET (plastic bottle). consumption leads not only to excessive al- In Ukraine, people consume 13 liters of pure cohol consumption in the country, but also to alcohol per capita, which makes 60 percent mortality growth due to alcohol consumption of vodka, 12 percent of wine and 28 percent (unfortunately, according to this indicator, of beer. These figures almost coincide with both Ukraine and Russia are the leaders).

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Structure of alcohol consumption in 2009, percent of pure alcohol consumption per capita

Consumption per capita (liters)

Alcohol in 100% 1012108109881091813 ethanol

Beer 109 159 93 85 107 110 73 90 79 81 70 58

Source: Euromonitir, Canadean, Carlsberg, Business Analytica

One percent of absolute alcohol in beer for influence on the industry. Thus, already from the domestic consumer is much more expen- January 2012 there will be a significant in- sive than in vodka — this ratio is one of the crease in tax on the use of water resources, largest in Europe. 17.9 percent, to 30.18 UAH. In 2011, there was increase of the beer price In addition, the expected increase in excise tax up to 12 percent. The main reason for this of 9 percent, respectively, from 0.74 UAH per growth was the increase of commodity prices 1 liter of beer to 0.81 UAH. (particularly for barley) and increase of the In comparison with countries, Ukraine ranks tax on hop growing. Currently, retail price of 11th in volumes of beer sales. beer in Ukraine is on the level of Middle Eu- ropean prices, at the same time vodka price is 1.4 percent of global beer volumes are sold in one of the lowest in Europe. Ukraine. In 2011, the brewing industry faced with in- The Ukrainian beer market among the major creasing duty on hop-growing from 1 percent players, there are three acting foreign com- to 1.5 percent of company’s turnover. panies: AB InBev (1 place); Carlsberg Ukraine (2nd place); SABMiller (4th place), and local In 2012, the brewing industry will face a num- company — "Obolon" (3rd place). ber of legal constraints that will have a strong

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Retail price of vodka per liter /USD Retail price of beer per liter /USD (purchasing power parity) (purchasing power parity)

Source: "Review of brewing industry market Source: "Review of brewing industry market in 2010", PWC in 2010", PWC

Volume of European beer market in 2010, KHL

Source: Ernst&Young

42 www.chamber.ua Prepared by: FMCG Market

Share of the major manufacturers on the beer market in Ukraine

Source: АС Nielsen

Distribution on segments of the major players on beer market

Segment Share Superpremium 1.4 % Premium 14.9 % Middle priced 44.1 % Low priced 39.6 %

Source: Ukrbeer Association

Non-alcoholic beer (NAB) market in Ukraine

Source: Ukrbeer Association

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2. Review of kvass market in Ukraine

Kvass market in Ukraine is currently still in ral product made from 100 percent natural the process of formation, and repeats devel- ingredients. opment of beer market, which was observed The current market volume of kvass is 10 years ago. 122 million liters. In other words, Ukrainian In 2011, kvass market decreased by 16 per- people consume about 2.6 liters of kvass per cent, which should be associated with adverse capita per year, while in Russia people con- weather conditions in summer. sume 3.2 liters, and in Belarus — 6.4 liters. Despite this, kvass market in Ukraine has In the Soviet Union people consumed 18 lit- great potential because trend of healthy life- ers, which indicates the potential for market style is gaining popularity in Ukraine. Kvass growth in the future. is a drink of natural fermentation, production Kvass market is becoming more structured, of which does not imply using any preserva- proportion of small, regional players is re- tives, flavors or substitutes. It is totally natu- ducing.

Kvass market by volume:

Source: AC Nielsen as of September 2011.

44 www.chamber.ua Prepared by: Fuel and Energy 5. FUEL AND ENERGY Electricity Sector of Ukraine

The Ukrainian energy sector infrastructure is USA, Australia and some countries of Western extremely high (up to 60—80 percent1) depre- Europe started to adopt incentive regulation ciated. practices. In 2002 Eastern European coun- Sizeable lack of investments into the net- tries switched to incentive tariff regime. Also works development made the energy sector in 2011 the transfer to RAB was completed in unreliable which causes low quality of sup- all Russian electricity distribution companies. plied electricity and customers’ low satisfac- In 2005 the detailed recommendations on pric- tion. On the other hand, distribution compa- ing reform in Ukraine were provided to the nies’ (DistCos) networks being designed and National Electricity Regulatory Commission of constructed in 1960th and 1970th (more than Ukraine by KEMA Consulting GmbH supported 40 years of operation) cannot meet constantly by the European Bank for Reconstruction and increasing demand for new capacities, thus, Development and the World Bank. The benefits DistCos became a limiting factor for indus- of the incentive regulation implementation in try and business development. Energy sector the Ukrainian energy distribution sector are: is required to be at least two years ahead of • promotion of capital investments into net- other industries in its development to fully works development; meet the consumption (capacity) needs. • stimulation of metallurgy, engineering and An effective tool attract investments into the construction sectors development as more ageing networks’ development is an incen- than 90 percent of DistCos’s construction tive regulation directed on (i) stimulation of materials suppliers are Ukrainian based; investments, (ii) improvement of the quality of provided services and (iii) constant im- • constant improvement of service quality; provements of efficiency of DistCos’ opera- • significant increase of DistCos availability tions. Stimulating or incentive tariff regime to meet constantly growing demand for ca- (RAB-regulation) is the best practice in tariff pacity, thus industries and small business regulation for the electricity distribution net- development; works, water supply, communication systems. • jobs creation and higher employment, in- The so-called RAB-regulation was first used crease of people welfare; in Great Britain at the end of 1980’s during the • promotion of higher taxes to state budget electricity network privatization and electric- and others; ity market liberalization. It proved to be highly effective as energy companies reduced costs • incentives for energy efficiency. and increased investments into the network However, the incentive tariff regulation is still utilities. In the middle of 1990’s Canada, the not implemented. 1 President’s program of economic reforms for 2010–2014, page 57

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The important obstacle of the stimulating • stop shifting cross-subsidies on industrial tariff regime approval is the cross-subsidiz- and small business customers which will ing practiced in the Ukrainian energy distri- improve the competitiveness of Ukrainian bution sector. Retail tariffs for households goods on international markets; are currently set disregarding the principle of • stop negatively effecting the DistCos’ work- real energy cost recovery (electricity genera- ing capital; tion, transmission, distribution and supply). During 2006–2010 the Ukrainian households’ • give a possibility to implement new market tariffs remained fixed. Approved back in 2006 model — bilateral agreements and balancing the households’ tariffs covered 60 percent of market; the economically justified level. In 2011 the • bring strong incentive for energy efficiency covering level reached the threshold level — by residential customers; 28 percent of the economically justified level. • give an opportunity to implement incentive Such pricing distortion causes huge cross- tariff regime and increase investments into subsidies in energy sector. The difference of the sector; real energy cost and the price that is paid by households is covered by industrial custom- • improve the system of targeted social assis- ers and at the same time effects the DistcCos’ tance to low income population strata. working capital deficit. Ukrainian legislation does not settle the pro- The growth of actual consumption by the cess of new connections to the grid which Ukrainian households by 10 percent in 2008– creates constraints for new business devel- 2009 (financial crisis!) shows that the house- opment and renewable generation construc- holds have no incentives for energy efficiency. tion — without connection to the network new EU member-countries and Post Soviet coun- business or renewable generation will not tries have an average households’ electricity functioning. The way to resolve such lack in tariff of around 5–62 times higher than the legislation is to adopt the Connection Rules Ukrainian level of tariffs. and Connection fee methodology. Current system of cross-subsidies makes Ukrainian government recognizes problems pricing in energy sector nontransparent and in energy sector and solutions of all prob- unpredictable, at the same time it is a strong lematic questions are reflected in the official constraint for new electricity market model President’s program of economic reforms for implementation — bilateral agreements and 2010–20143. balancing market. Unfortunately, declared plan of reforms is The way to abolish the cross-subsidization delayed in implementation which exacer- system is to bring households’ tariffs up to bates the current problems of the energy the economically justified level. Recent in- sector of Ukraine. Thus, implementation of crease of electricity tariffs for households in the full scope of declared reforms is vitally February and April of 2011 failed to have any important for energy sector and Ukrainian substantial impact on covering economically economy in the whole. Success in reforms justified level as the tariff covering level in- will bring the sector to the new stage with creased only by 1 percent. Estimations show prospects of further energy independency, the required 4 times increase of currently efficiency and conservation. fixed households tariffs in order to reach the sound level which will: 3 http://www.president.gov.ua/docs/Programa_reform_ 2 ERRA data FINAL_2.pdf

46 www.chamber.ua Prepared by: Fuel and Energy Securing the Land Rights and Implementation of the Alternative Energy Projects

Dr. Oleksiy Feliv, LL.M. Partner BEITEN BURKHARDT Attorneys-at-Law

For over the last two years, development of Whereas the size of land plots for solar plants the alternative energy projects has become remains rather moderate (on average, 10 hec- a new and extremely dynamic sphere of en- tares), land sites for wind farms may extend ergy industry that is of intense interest for up to 1–5 thousand hectares. Areas with the both foreign and Ukrainian investors. De- best potential for wind farms and solar plants velopment in the sphere was accelerated af- are mainly located in southern regions of ter supplementation of the Law of Ukraine Ukraine. The majority of these areas are pai- “On Electric Power Industry” in April 2009, based (privatized and shared) agricultural with a new Article 17–1 promoting the elec- lands. Alienation or change of the designated tricity generation from alternative sources. use of such lands is prohibited by a morato- Not any alternative energy projects ap- rium pursuant to section 15 of the Transi- pear to be potentially attractive at that, but tional Provisions of the Land Code of Ukraine. rather those which are specifically pro- To avoid the moratorium, a number of alter- moted by the law. Such promotion lies in so native instruments for acquiring (securing) called “green”41tariff applicable to electric- such lands have been elaborated and partially ity generated from the alternative sources. implemented in practice. The green tariff rates apply to the electric- Below are the most common schemes for im- ity generated from the wind, biomass, solar plementation of the alternative energy projects. radiation or water energy (provided that the hydropower plants are up to 10 MWt). Tak- ing into account the legal restrictions on the 1. Securing land plots by capacity of hydropower stations as well as limited nature of biomass plants, wind and servitude agreement solar plants enjoy the main industrial sig- It is a common practice, especially in the Au- nificance and are therefore prime targets for tonomous Republic of Crimea, that servitude investment. agreements secure land plots for wind farms or solar plants. Though as to Ukraine, the land 4 Pursuant to the effective laws, the “green” tariff is a spe- servitude is a comparatively new legal phe- cial tariff applied for purchase of the electricity generated by the plants using alternative energy sources (except for nomenon; in the context of the history of law, the blast furnace gas and close-burning gas, and if a use the land servitude is one of the oldest legal of hydroenergy — only those generated by small hydro- institutes, dating back to the ancient Greek power stations up to 10 MWt).

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or Roman law. Most likely, two thousand and owner’s right to use or possess the land plot. a half years ago, a Roman lawyer would re- As an example, the construction of an access ply undoubtedly in the negative to the ques- road to the wind farm through the land plot, tion, whether a building, facility or wind which renders use of such land plot impos- farm could be built on the basis of a servi- sible, has nothing to do with servitude, since tude agreement, since that would contradict the construction leads to an exhaustive use of the nature of the servitude. The same reply the land plot, rather than the restricted one. must be also given by the Ukrainian lawyer In such instances, the right of land lease, su- nowadays. Pursuant to Article 98 of the Land perficies, or ownership are appropriate. Code of Ukraine, land servitude is the right With adoption of the Law of Ukraine “On to restricted use of another’s land plot. Thus, Lands of the Energy Sector and Legal Regime the main difference between a servitude and on Special Zones for Energy Objects” it be- a lease lies in the restrictions over use. The came obvious that a power plant cannot be restrictions of the servitude are caused by a built based on a servitude. Pursuant to Article third party’s necessity to use another’s land 16 of the Law, fixed-term or permanent land plot or real estate (for instance, such as a right servitudes may be executed solely with re- of passage through somebody’s land plot or spect to electricity transmission lines and not the right of laying utilities through the land with respect to the power stations. plot owned by another person). As a conse- quence, the servitude as a restricted right to In addition, the construction of power plants use a third party’s land plot is a certain auxil- without changing the designated use of land iary element, enabling the owner to exercise, is permissible in accordance with part 2 of in full, the rights arising out of the ownership Article 14 of the aforesaid Law only for con- to his/her own land plot. It would be more struction of electricity transmission lines. The correct to define a servitude as a restricted fact that servitudes are established on agri- right in rem to the land plot, which consists in cultural land plots does not resolve, therefore, the right to request the owner of the land plot the issue of compliance with the designated to refrain from certain actions (installation of use of such land plots. a fence on the land plot) or tolerate certain Securing land plots for the construction of actions (allow passage through the plot or alternative energy projects based on a ser- laying of utility lines), rather than the right vitude contradicts with the legal nature of to restricted use of somebody’s land plot. It a servitude as well as the new Law. At the is not without a reason, that in the theory of same time, construction of separate ele- the law we speak about so called “dominant” ments of the power plant infrastructure and “auxiliary” land plots. The auxiliary land (roads, transmission lines) is possible on the plot is the land plot with respect to which the basis of a servitude. servitude is established. Bearing in mind the above idea of a land ser- 2. Renunciation of the vitude, in case of alternative energy projects, there exists both (i) the dominant land plot, land plot owned by the project developer and which is dedicated for implementation of the pro- Pursuant to Article 140 of the Land Code of ject itself, and (ii) the auxiliary land plot, for Ukraine, one of the grounds for termina- which the restricted use rights are requested tion of the right of ownership to a land plot by the owner of the dominant land plot to en- is the owner’s voluntary renunciation of the able project implementation on its own land right to a land plot. The renunciation of the plot. It is crucial that the establishment of the right of ownership does not fall under the land servitude with regard to the auxiliary moratorium pursuant to Article 15 of the land plot should not lead to termination of the Transitional Provisions of the Land Code of

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Ukraine. The renunciation shall take place Thus, the renunciation plus compensation in accordance with Article 142 of the Land should be classified as a purchase agreement Code of Ukraine on the basis of an applica- which is invalid as of the moment of its ex- tion filed by the owner of the land plot and ecution due to the moratorium imposed by the respective agreement with the state or Article 15 of the Transitional Provisions of the local self-government body. At this point, Land Code of Ukraine. the land plot becomes communal or state property. That being said, pursuant to part 3. Implementation а) of Article 15 of the Transitional Provisions of the Land Code of Ukraine, the purchase of the alternative or sale of the agricultural land plots in the state or communal property are not allowed, energy projects on the it is possible to lease such plots. Therefore, agricultural lands the land plots renounced by the owner may be referred to as “reserve lands”, which may An absolutely new trend in the field of alloca- be let out on lease for implementation of the tion of the land plots is the execution of lease alternative energy projects. agreements with owners of pais and substan- In practice, the voluntary renunciation of a tiation of construction of energy-generating land plot is rather an exception. It is obvious plants without change of the land plot desig- that the owner will not renounce its land plot nation. For the substantiation Article 23 of the without expecting a compensation for such Land Code of Ukraine will be applied, accord- renunciation. In practice, compensation is ing to which primarily non-valuable agricul- an obligatory element of a renunciation and tural lands or agricultural lands of a lower is paid on the basis of the respective agree- quality can be appraised for construction of ments and the time of its payment is linked industrial enterprises, housing and com- to the moment of renunciation and assign- munal buildings, railroads and motor roads, ment of the right of ownership to the com- electricity transmission and communication munity or the state. lines, main pipelines, and for other build- From a legal viewpoint, “voluntary” renun- ings not related to the agricultural produc- ciation of the right of ownership, along with tion. Correspondingly, the plan provides for the compensation for such renunciation change of the lands from the agricultural to 5 2 and subsequent transfer of the land plot to the non-valuable agricultural , or declara- 6 3 the person who paid the aforesaid compen- tion of such lands as the land of poor quality . sation is arguably an illusory transaction. As a practical example for the implementation Pursuant to part 1 of Article 235 of the Civil of a construction project on the non-valuable Code of Ukraine, an illusory transaction is agricultural part of agricultural land plot, one a deal made by the parties in order to con- 5 Pursuant to the Law of Ukraine "Оn the State Land Ca- ceal another transaction which the par- dastre", information regarding the land plots valuables ties made in reality. In such instances, the should be introduced into the State Land Cadastre on the basis of the land respective projects. “other legal transaction” is the agreement 6 Due to the absence of the legislative procedures for dec- regarding alienation (purchase) of the land laration of lands as the lands of poor quality, it will be plot in favor of the interested party. Pur- proposed to ensure such acknowledgement via filing of A respective suit to the court. One may assume that the suant to part 2 of Article 235 of the Civil respective court award will be delivered. In such cases, Code of Ukraine, if the transaction is made it is obvious in our opinion that the court will take over by the parties in order to conceal another the functions of the body responsible for determining the quality of the land. According to the court practice of the legal transaction, the parties’ relationships Supreme Court of Ukraine, it is not allowed for the courts shall be governed by the rules applicable to take over the functions of the respective state bodies, with respect to the transaction which the bodies of local self-government or the authorized enter- prises, establishments or organizations, when resolving parties intended in reality. disputes.

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may look to the construction of hypermarkets. plot after withdrawal may be deemed an unau- Such construction is indeed possible pursu- thorized occupation of the land plot. Accord- ant to the provisions of part 2, Article 22 of ing to part 2 of Article 212 of the Land Code the Land Code of Ukraine, whereby the lands of Ukraine, arbitrarily occupied land plots may of the agricultural designation may be allo- be brought into the original condition, includ- cated to the wholesale markets of agricultural ing demolition of premises and buildings at the products for location of their own infrastruc- expense of the person who arbitrarily occu- ture, which may include a hypermarket for pied the same. In any case, there is a real risk the sale of agricultural products. The transfer of ceasing operation of the power plant on the of the agricultural lands to non-agricultural basis of the respective order from the state companies is allowed pursuant to part 2 of land inspector since the use of the land plot Article 22 of the Land Code of Ukraine solely would be in violation with its designation. for auxiliary agricultural farm facilities. In addition to the listed risks, it is doubtful It should be emphasized that Article 14 of the that one will have the construction project Law of Ukraine “On Lands for the Energy Sec- approved, the state expertise passed and the tor and the Legal Regime of Special Zones for green tariff obtained with respect to the pow- Energy Objects” provides for the possibility to er plants (which are industrial in their nature) construct on the only electricity transmission located on non-valuable agricultural parts of lines on agricultural lands. Correspondingly, agricultural lands. the location of electricity generating plants on the agricultural lands is prohibited without changing the designation. 4. Buy-out of lands for It is obvious that advocates of the idea re- public needs garding construction of the alternative power plants on agricultural lands without changing Pursuant to Article 15 of the Transitional the designated use do understand the risk of Provisions of the Land Code of Ukraine, the having such construction declared a non-des- moratorium on land transfers is not applica- ignated use of the land plot, which may lead to ble when alienation of the agricultural lands involuntary termination of rights (ownership takes place for a public need. According to Ar- or use) to the land plot pursuant to Article 143 ticle 7 of the Law of Ukraine “On Alienation of of the Land Code of Ukraine. Opponents argue, the Land Plots, and Other Real Estate Objects however, that the risk is minimal in the case a Located Thereon…”, a public need, includes, power plant is constructed as a part of integral inter alia, construction and servicing of the property complex of an agricultural enter- energy infrastructure (electricity transmis- prise74 and that the risk is mitigated as of the sion lines, power plants). Thus, the land plots moment when the object is built and the right for construction of alternative power plants of ownership is registered. Indeed, the fate of may be bought out from private owners. If the the real estate object located on the land plot to owners refuse to the buy-out, the respective which the use right is determined, is not regu- land plots may be alienated on an involuntary lated by the Land Code of Ukraine. Simultane- basis by means of a court award, since in ac- ously, demolition of a real estate object located cordance with Article 15 of the aforesaid Law, on withdrawn land would violate the rights construction of the transmission lines and guaranteed by Article 41 of the Constitution of power plants is deemed to be a public need. Ukraine. On the other side, the use of the land The priority of a public needs, in connection with the energy-related lands, over the pri- 7 In practice, it is hard to imagine that an industrial object — wind farm with the capacity of 200 MWt — is built "in the vate property needs is acknowledged by Ar- complex of an agricultural enterprise". On the opposite, ticle 3 of the Law of Ukraine “On Lands of the there would be no objections, if an agricultural enterprise Energy Sector and Legal Regime of the Spe- puts a wind turbine on the agricultural land in order to provide the farm with electricity. cial Zones of Energy Objects”. Article 14 of the

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Law confirms the possibility of a buy-out of there is a considerable investor interest in the land plots which are in private property, this field. Given that any construction com- for construction of the energy-related objects mences upon resolution of the land-related pursuant to the established procedures. issues, it is no wonder that certain schemes It should be noted that allocation of the land have been elaborated in practice in order to plots for implementation of the alternative secure land plots of the agricultural desig- energy projects via their buy-out for public nation restricted by the moratorium. Nev- needs is a rather complicated and long-term ertheless, results of the analysis of such process, which shall include participation of schemes on their conformity to the effective the district state administrations (as a rule, laws are open to criticism. The only lawful, potentially attractive plots are located outside and, at the same time, the most complicated of the settlements and allocation of such land plan is the buy-out of such land plots for falls within the competence of the district public needs. state administration), which according to the It should be pointed out that, even when effective laws enjoy exclusive rights to buy other schemes for securing the land plots out the land plots for public needs, with their may work out in the process of approval of a subsequent transfer to the interested person. project, one should not forget that the pre- As a rule, local state administrations have no requisite for securing funding for construc- funds to buy out such land plots and, in con- tion by a private or institutional investor tradiction to the local self-government bod- entails a complex legal analysis of the re- ies, which are not allowed to use borrowed spective documents. One should expect that funds for such purposes. These are the main such analysis should include evaluation of obstacles one may face by using the buy-out risks related to the non-conformity of the scheme for securing the land for alternative specific scheme with the effective laws, and, energy projects. as a consequence, the investor’s refusal to participate in financing such a project. 5. Conclusions Thus, prior to commencement of the pro- ject, one should decide, which scheme is to be chosen, giving due consideration to the Despite the fact that the green tariff was in- related risks. troduced quite recently, practice shows that

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Healthcare Policy Insights

2011–2012 Partnership for Successfully Competing in the Global Economy Report

During the 20 years of Ukraine’s independ- this indicator in 2008 is the same as it was back ence the life expectancy of Ukrainians at birth in 2000. Moreover, Ukraine shares with Russia has deteriorated: from 70 years in 1990 to 68 in the lowest life expectancy value in Europe. It 2008, although it has returned to 70. Ukraine seems obvious that Ukraine’s healthcare policy is the only country among its neighbors where has to be significantly improved.

Reimbursement system and compulsory medical insurance system

Each year almost 33 million Ukrainians turn Moreover, the government’s unclear vision to hospitals for help. In up to 45 percent of all and the lack of open discussion concerning a cases it is for a respiratory disease. Diseases of strategic plan for healthcare system develop- the circulatory and genitourinary systems, as ment and declared reforms hold back sector well as injury, poisoning, and certain other con- competitiveness. While formally a country sequences of external causes, each represent with free medical care, Ukraine remains the 7 percent of the total number of illnesses (see only European country without any reim- Figure 1). However, this figure does not make bursement system in terms of expenses for clear that in 2008 Ukraine was in 188th place out ambulatory treatment and related medicines. of 193 countries according to number of esti- This does not provide for the existence of mated total deaths per capita caused by cardio- facilities for improving quality of life or for vascular diseases. In addition, Ukraine has the increasing Ukrainians’ life spans. We believe second highest percentage of HIV prevalence that step-by-step implementation of a re- among adults aged 15 to 49 in Europe and the imbursement system on the basis of the ex- highest among the CIS countries; in 2009 it took perience of both post-communist countries 131st place among 145 counties in number of and major world democracies will create the deaths due to AIDS, coming in between Ghana grounds for developing the system. Moreover, and China. According to the World Health Or- introduction of compulsory medical insur- ganization, Ukraine and Moldova were in 2009 ance should substantially improve the situa- the countries with Europe’s highest numbers of tion as regards financing healthcare. deaths due to tuberculosis among HIV-nega- The American Chamber of Commerce in tive people: 26 people per 100 000 population. Ukraine (Chamber) Healthcare Commit- The market for medical services and the tee wishes to provide input into healthcare medical care system in general remain sig- system reform that incorporates Commit- nificantly underdeveloped. This is due, first of tee members’ expertise and experience from all, to lack of financing from state and local other countries. budgets and inefficient use of available funds.

52 www.chamber.ua Healthcare

Figure 1: The dynamics and structure of first-time registered diseases in Ukraine in 2010.

Source: State Statistics Service of Ukraine.

IPR and a transparent system of market authorization for medicines

Since 2008, when Ukraine became a WTO the new version of the Law on Medicines, it member, its legislation protecting the rights is crucial to ensure a high level of intellec- of intellectual property owners has developed tual property protection in the sector, the ef- significantly. This has been an important step ficiency of enforcement mechanisms and the towards the Ukrainian market’s being com- full transparency and efficiency of the mar- petitive and attractive for foreign investors ket authorization system in the country. This in the pharmaceutical and healthcare sec- protection should of course be in line with a tor. In addition, the current market authori- modern approach to access to medicines and zation (registration) system for medicines is medical treatment, the sort of approach used acknowledged as advanced. Taking into ac- in countries with market economies (which count the recently announced plans to adopt Ukraine has been for many years).

A transparent and efficient quality control system

Equal treatment and non-discrimination of counterfeit products on the domestic mar- principles with respect to both locally pro- ket, there is no compelling evidence for that duced and imported medicines should form opinion. The role of the state as regulator, the cornerstone of the quality assurance sys- which is without a doubt very important, must tem for medicines in Ukraine. Despite numer- in no case replace its role as a guarantor of ous rumors that there is a significant amount the physical accessibility of medicines. Nei-

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ther technical barriers to import nor unjus- ver, increasing transparency in this sphere tified bureaucracy or overregulation should will strengthen Ukraine’s competitiveness on start to characterize the Ukrainian market in global markets even more. terms of its quality control system. Moreo-

Medicine import substitution

There are certain risks to implementing an in- indicated heightened government pressure adequate medicine import substitution policy on the import market for medicinal products. for foreign pharmaceutical companies spe- It is important to include such terms as “data cializing in R&D based on the Draft Concept exclusivity” and “patients’ rights” into the of the State Target Program “Development State Target Program. of Import Substitution Production in Ukraine and Substitution of Imported Medicinal Prod- There are also IPR risks involved in import ucts by National, Including Biotechnologi- substitution policy, in the plans for prefer- cal, Products and Vaccines” for 2011–2021. ences for national medicine producers, in It is important that the program protect the violations of GATT/WTO rules, etc. intellectual property rights of foreign phar- The Chamber Healthcare Committee sup- maceutical companies and improve patients’ ports the idea of import substitution, which health by guaranteeing their access to quality should be openly discussed and developed and safe medicines. The Draft Concept should with the involvement of experts and all inter- exclude any possibilities for corrupt schemes ested parties. In its current version, however, in state procurement tenders and unjustified the Draft Concept does not protect the inter- discrimination against foreign manufacturers. ests of patients or of foreign and Ukrainian The criteria to be applied in the governmental pharmaceutical producers. It is important to import substitution program are also impor- establish a favorable climate for the develop- tant. Foreign companies are ready to provide ment of a pharmaceutical market first. This is price discounts at state procurement tenders; possible only after the adoption of the corre- this document, however, does not provide sponding Law “On Medicinal Products.” for transparency in the realization of import The Chamber continues to follow the changes substitution policy. in the legislative and regulatory fields of health- Draft Law #7412 “On the Amendments to Ar- care policy. The members of the American ticle 9 of the Law of Ukraine ‘On Medicinal Chamber of Commerce in Ukraine in conjunc- Products’ Regarding Bringing the Registration tion with its partners are working to develop Procedure for Medicinal Products into Cor- the comprehensive long-term policy position respondence with International Standards” needed to improve healthcare in Ukraine — the (passed in the first reading on April 19th, 2011) pillar of the country’s competitiveness.

54 www.chamber.ua Prepared by: Human Resources, Labor and Employment 7. HUMAN RESOURCES, LABOR AND EMPLOYMENT

Ukrainian Labor Market Overview: The Latest Trends

This review will focus on the development of specialization to try their hand at new ac- Ukrainian labor market in the post crisis year tivities. Today, fewer employers are grant- 2011. Throughout the year, Brain Source In- ing development possibilities for newbies ternational recruitment experts have indicat- and inexperienced professionals. ed the following trends: • Willingness to invest in employee develop- • Personnel demand increase (compared to ment. More and more organizations under- 2010 and the first quarter of 2011). One of stand that it is less costly and more effective the reasons — staff reductions during the to invest in existing loyal employees than crisis period, when some companies had to buy new talents. close down entire departments or regional Judging by the dynamics of candidate search network branches. Right now, as business- requests, the sales in 2011 were most rap- es are starting to feel more confident in a idly developing in FMCG, pharmaceutical, stabilizing environment and focus more on production, B2B and IT sectors. Speaking of revenue growth than cost reduction, they highly demanded professionals, 2011 saw a demand more qualified personnel. stable demand for top-managers dedicated • A growing trend to use social networks to creating and implementing the compa- to look for personnel. This trend appeared ny strategy (most of all — general operation in 2010 and became very prominent in 2011. managers, logistics, marketing and business- More companies are offering training ser- development), and also sales specialists. The vices focused on effective usage of social employee demand, instigated by the process- networking tools. es of sale and merges of some companies, was especially high on a pharmaceutical market. • Toughening employer demands to- wards a candidate’s profile. The compa- As well as in recent years, the Ukrainian la- nies are willing to hire professionals, who bor market shows a stable high demand for know all the job specifics in their indus- IT developers. The IT sector companies are try field even before they are hired and ready to headhunt specialists or invest time are able to produce an outstanding result and money in new prospective professionals. without additional training. Vacancies are To a certain extent, 2011 can be regarded as mostly available to those already success- a season of hunting for blue-collar workers, fully employed in the demanded industry. especially in Western Ukraine, where there is This makes it substantially harder for pro- a prominent presence of production compa- fessionals willing to change their field of nies with foreign investments.

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At the same time, the behavior of job ap- understanding of what kind of people they plicants and prospective candidates un- want to employ. The resume, besides an un- derwent considerable changes. Taught by interrupted job list, should include the list of the crisis, the candidates became more de- candidate`s specific achievements, preferably manding in their search of an employer, the containing percentage and numbers. There is payment size is no longer the main attrac- a growing trend to demand recommendations tion. More and more attention is paid to an from the candidates` previous workplaces. organization`s stability, its history, image, and The year 2011 saw the growing rate of re- the level of success during the crisis. Also, the quests for personnel search via recruit- employees are more qualifies in terms of job ment agencies. The employers are very de- search — they know how to impress a recruit- liberate in taking this course of action: the er, and which character traits and profession- market is refocusing on revenue increases, al competencies they have to demonstrate and service functions are handed over to ex- to become a successful candidate. Many feel ternal providers. free to ask for feedback after an interview, as well as for recommendations of how to be- Predicting the labor market dynamics of come more interesting to their prospective 2012 is rather complicated, because along employers. with the favorable factors (such as consumer activity increase, investments due to the up- Regarding the payment policy, there is a coming EURO 2012), there are also potentially trend towards salary increase, but at the disrupting ones such as political situation, a same time the compensation structure chang- possible second wave of the financial crisis, es, its fixed part becomes larger. The salary etc. The most recent logical probability is that expectations, as indicated by Brain Source the labor market demand for qualified pro- International recruitment experts, have also fessionals will continue to grow. increased, especially among industry profes- sionals and managers. The latter are openly The positive dynamics are likely to develop stating their salary demands and often speak in agricultural sector, also in insurance (the of the linkage of salary increase/decrease to latest trend of 2011), sales and IT sectors. the results of the company activity. Regarding The cities that will host Euro 2012 are likely the currency preferences, euros, dollars and to see the increase of demand for qualified hryvnas are equally preferred. HoReCa specialists. Employers became more demanding to- wards candidates. Partly, due to concrete

56 www.chamber.ua Prepared by: Human Resources, Labor and Employment Main Novelties in the Draft Labor Code of Ukraine

Ms. Oksana Voynarovska, Ms. Tetyana Ivanovych Vasil Kisil & Partners Law Firm

New realities pose serious challenges for unreasonable refusal of employment labor laws, which first of all need to find a (part 1 of Article 31 of the Draft Labor Code). balance between the necessity to protect the The Draft Labor Code upholds the princi- rights of employees and the necessity to en- ples of prohibition of forced labor and the sure labor market flexibility and trigger an non-discrimination in employment, in- active social dialogue. cluding in respect of the suspected or actual Apart from Poland, Ukraine is the only coun- HIV/AIDS disease (Articles 4, 5 of the Draft try among the Eastern European and Central Labor Code). Part 2 of Article 4 of the Draft Asian countries, which maintains in force Labor Code expressly defines the notion of the old Code of Labor Laws, the Code of La- “gender discrimination”. bor Laws of the USSR, dated December 10th, It should also be highlighted that part 8 of 1971 # 322-VIII (the “CLL of Ukraine”). Radi- Article 6 of the Draft Labor Code provides cal changes in the whole system of social re- that labor laws shall not apply if any work lations that are taking place in Ukraine amid is performed by an individual entrepreneur the formation of market relations and socio- on his/her own; any work is performed by economic transformations and more or less members of an individual farm at such farm; related to labor make it necessary to adopt a or if an individual is engaged in any work new codified legal instrument in this sphere. under a civil law contract. In addition, the According to the agenda of the ninth session Draft Labor Code permits the execution of a of the Verkhovna Rada of Ukraine (the Ukrain- civil law contract with officials of business ian Parliament) of the sixth convocation, which companies and in those cases where an indi- will continue until January 13th, 2012, the Verk- vidual performs his/her duties under a civil hovna Rada of Ukraine is planning to consider law contract that requires the performance the Draft Labor Code under registration # 1108 by such individual of certain works for any (the “Draft Labor Code”) in the second reading. other party to such contract. This draft law is expected to be adopted at the The Draft Labor Code establishes the cat- current ninth session, i.e. in the nearest future. egories of foreign nationals who do not need The Draft Labor Code consists of nine books; any employment permit. Thus, part 6 of each divided into separate chapters, and Article 20 of the Draft Labor Code assigns contains 444 articles. For the first time in the following employees to such categories: Ukraine’s legislative history, the Draft Labor 1) representatives of foreign maritime (river) Code determines the goals, objectives, and fleet and foreign airlines that provide ser- scope of regulation of the labor laws (Arti- vices to such organizations in the territory of cles 1, 2 of the Draft Labor Code). Ukraine; 2) representatives of foreign mass media accredited in Ukraine; 3) actors and The Draft Labor Code, similarly to the CLL art workers to be employed in Ukraine in ac- of Ukraine currently in force, prohibits the

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cordance with their professional qualifica- conditions prescribed by applicable laws and tion; 4) employees of emergency rescue ser- by a collective bargaining agreement. Thus, vices for performance of emergency works; as opposed to the currently effective CLL of 5) heads of representative offices of foreign Ukraine, the Draft Labor Code contains an business entities in Ukraine and chief execu- exhaustive list of material terms and condi- tives of enterprises with foreign investment; tions of the employment agreement, failing 6) employees employed within and for the which the employment agreement shall not be positions (areas of qualification) set out in a deemed executed. They, in particular, include product sharing agreement. the following terms and conditions: place of One of the most significant novelties in the employment; effective date of the employ- Draft Labor Code is introduction of quotas ment agreement; job duties, or profession in for employment of persons in need of so- which the employee will work; remuneration cial protection. Such quotas are set by local conditions; work and rest time; occupational self-government bodies subject to approval safety and health. by territory-based social dialogue authori- The Draft Labor Code provides that the em- ties (Article 35 of the Draft Labor Code). The ployment agreement must be made in writ- foregoing provision of the Draft Labor Code ing (Article 41 of the Draft Labor Code), which raises serious concerns since і) it introduces should surely improve the social protection of 5 schemes of quotas covering a wide range of employees. However, as provided by the Draft employees, and іі) it envisages a single stand- Labor Code, the violation of this rule may not ard for employers without any regard to in- affect the already existing employment rela- dustry, region or company size. tions. Thus, subject to the foregoing provi- Pursuant to part 2 of Article 38 of the Draft sion and considering that, as stated above, the Labor Code, employment relations arise: 1) employment relations arise, in particular, on on the day the employee begins working ac- the date the employment begins, the actual cording to an employer’s order or permit; 2) admission to work is equal to the execution on the day the employment begins accord- of the employment agreement, whether or not ing to an employment agreement (unless the such agreement has been executed in writing. employee concerned fails to begin working on Article 42 of the Draft Labor Code classifies such day due to his/her disease or for other the employment agreements into typical valid reasons); 3) on the date set out in a court agreements, which shall be approved in the decision (if the court obliges an employer to cases envisaged by law by a central execu- employ a relevant employee). tive authority in charge of employment issues Another new provision is part 2 of Article and shall be legally binding, and model agree- 39 of the Draft Labor Code, which provides ments, which shall be approved by a central that an employment agreement may be ex- executive authority in charge of employment ecuted at any time before the beginning of issues and shall be advisory in nature. This employment. In other words, unlike the CLL novelty is hardly justified. of Ukraine currently in force, the abovemen- New provisions also include a probation pe- tioned provision entitles an employee to enter riod for employment. Thus, according to into an employment agreement prior to his/ part 1 of Article 46 of the Draft Labor Code, her dismissal from his/her previous job. the condition of probation shall be deemed Other novelties of the Draft Labor Code relate approved if the agreement on this condition is to the content and form of the employment set out in the employment agreement. Article agreement. Thus, Article 40 of the Draft La- 47 of the Draft Labor Code prohibits applying bor Code provides for the following terms and a probation period to the following additional conditions of the employment agreement: 1) categories of employees compared to the CLL binding, 2) additional, and 3) other terms and of Ukraine currently in force:

58 www.chamber.ua Prepared by: Human Resources, Labor and Employment

• employees elected to a relevant position; Article 69 of the Draft Labor Code provides • winners of a competition to fill a vacant po- for an expanded and clearer list of grounds for establishing employment relations for sition and an indefinite period of time. • employees who completed training on pro- The Draft Labor Code also provides for an bation outside regular working hours in expanded list of grounds for terminating their primary employment. employment relations with an employee, Meanwhile, it should be noted that unlike the as compared to the currently effective CLL currently effective CLL of Ukraine, the Draft of Ukraine. Thus, such additional grounds Labor Code does not prohibit a probation pe- are as follows: riod for disabled employees. • A gross violation of labor safety rules, fire Furthermore, unlike the currently effective safety rules or traffic safety rules (Clause 5 CLL of Ukraine, the Draft Labor Code pro- of part 1 of Article 104 of the Draft Labor vides a clear list of documents to be sub- Code); mitted by a newly hired employee (Article • Disclosure of a state or commercial secret 58 of the Draft Labor Code). In addition to the (Clause 2 of part 2 of Article 104 of the Draft passport, the employment record book and Labor Code); the education-related document currently required under the effective labor laws, the • A violation by the director of the rules Draft Labor Code requires submission of the set by the founders (Clause 6 of part 2 of following additional documents: the appli- Article 104 of the Draft Labor Code); cation for employment (with the indication • The employee’s absence from work, with whether this will be full-time or part-time no information available as to the reasons employment), the compulsory state social behind such absence, for more than four insurance certificate, the tax identification months (Article 108 of the Draft Labor number and medical examination results Code); (for some positions). • Decease of the employer (Article 113 of the Like the currently effective CLL of Ukraine, the Draft Labor Code); Draft Labor Code limits the scope of applica- • Death of the employee (Article 114 of the tion of fixed-term employment agreements Draft Labor Code). and provides that fixed-term employment agreements should be executed when respec- Evidently, such additional grounds for termi- tive employment relations cannot be estab- nating employment relations as the decease lished for an indefinite period of time. of the employer and the decease of the em- ployee are purely technical in nature. In the employers’ opinion, in view of the re- forms currently underway in the global labor The Draft Labor Code also introduces new market, the Draft Labor Code should guar- rules governing the procedure for dismiss- antee the right of the parties to employment ing employees. Thus, it imposes a ban on relations to freely agree on the execution of dismissal of employees while they are on a fixed-term employment agreement regard- a business trip (part 2 of Article 116 of the less of the grounds or the nature of the job. Draft Labor Code). Meanwhile, since the limited scope of appli- Of great social importance are the provisions cation of fixed-term employment agreements of Article 120 of the Draft Labor Code pro- is one of the important guarantees of the em- viding for the employees’ right to protec- ployees’ labor rights, the position of the Min- tion from unlawful dismissal. Thus, in ac- istry of Social Policy of Ukraine and the trade cordance with the said Article, prior to their unions on this issue remains unchanged. At dismissal, employees should first be given an the same time, a positive development is that opportunity to provide evidence of their level

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of qualification, their work productivity, their The Draft Labor Code radically changes the diligent attitude towards the performance of legal status of the labor dispute commis- their job duties, the legitimacy of their actions sion, in particular, out of the primary author- or omissions to act, and to give explanations ity for consideration of individual labor dis- regarding the committed violations or fail- putes, the labor dispute commission has ures to properly perform their job duties. been transformed into a conciliation body set up for the purposes of “settling individual The Draft Labor Code provides for the em- labor disputes through a search for mutually ployers’ obligation to give references at the acceptable solutions and reconciling the par- employee’s request in the event of his or her ties to such disputes”. The only authority au- dismissal (part 1 of Article 125 of the Draft thorized to consider individual labor disputes Labor Code), and a ban on provision to any in accordance with the Draft Labor Code is third parties of any information about the the court, while the labor dispute commission reasons behind the dismissal or any other performs only conciliatory functions. information about the employee (part 2 of Article 125 of the Draft Labor Code). In accordance with the Draft Labor Code, the general limitation period for judicial Unlike the currently effective labor laws (Ar- recourse has been extended from three ticle 11 and 14 of the CLL of Ukraine), the months to three years. The limitation period Draft Labor Code establishes the principle for filing a statement of claim with the court of voluntary collective bargaining in line against an unlawful dismissal has not been with international practice. Thus, in accord- changed and is still set at one month. The same ance with part 4 of Article 349 of the Draft La- limitation period is prescribed by the Draft bor Code, collective bargaining shall be man- Labor Code for filing claims regarding trans- datory if proposed by either party. Meanwhile, fer to another job or unlawful refusal of em- part 3 of Article 356 of the Draft Labor Code ployment. In the authors’ opinion, the positive provides that the parties, who have agreed to novelty introduced by the Draft Labor Code is enter into a collective bargaining agreement, its provision saying that no limitation period shall execute it annually not later than Febru- shall apply only to the claims for recovery of ary 1 of the current year. Therefore, Articles accrued but delayed wages, and neither to any 349 and 356 of the Draft Labor Code allow the claims relating to labor remuneration (part 2 of conclusion about the compulsory annual ex- Article 440 of the Draft Labor Code). ecution of a collective bargaining agree- Subject to the foregoing, the authors believe ment regardless of the parties’ will, provid- that a majority of the novelties proposed by the ed that the parties agree to enter into such Draft Labor Code will help to find balance be- agreement at least once. And therefore, the tween the interests of employers and those of legislators of the Draft Labor Code have failed hired employees. However, a complex analysis to pursue the principle of voluntary collective of the provisions of the Draft Labor Code al- bargaining to the end. lows the conclusion that Ukraine still has not In the authors’ opinion, the term of a col- shifted towards the radical reforms suggested lective bargaining agreement is, first of all, by the international experience of labor law the prerogative of social partners, i.e. parties reforms, such as the alleviation of overly strict to the agreement, and therefore, it should be labor law requirements to simplify the proce- determined by them. The same conclusion is dures for hiring and dismissing employees, the also supported by the International Labor Or- extension of the term and the scope of appli- ganization, which says in its comments to the cation of fixed-term employment agreements, Draft Labor Code that from a practical stand- the provision of a variety of possible options point, it is not advisable to create a situation for entering into employment agreements, the where every 12 months the parties inevitably introduction of flexible work hours, and the find themselves in a conflict situation. introduction of apprenticeship wages.

60 www.chamber.ua Information & Communication Technologies 8. INFORMATION & COMMUNICATION TECHNOLOGIES

Information and Communication Technologies Sector Overview

2011–2012 Partnership for Successfully Competing in the Global Economy Report

Information technology is an effective means The IT industry has been developing the most of solving many social problems. It qualita- rapidly of all the areas of our social and eco- tively determines new stages of economic, po- nomic life during the last 20 years. Ukraine litical, and socio-cultural activity. Moreover, has already become a fast-growing and rec- the information and communication technol- ognized location for the IT outsourcing in- ogy (ICT) sector offers huge opportunities for dustry. Taking into account the importance growth and investment. and prospects for the development of this

Figure 1: Internet and major social networks penetration in selected countries as of Q2 2011, percent of population.

Figure 1: Internet and major social networks penetration in selected countries as of Q2 2011, percent of population.

* as of March 15th, 2011.

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sector, the American Chamber of Commerce The Chamber is devoting special attention to in Ukraine (Chamber) IT Committee aims to this law and aims to achieve a balance be- enhance Ukraine’s investment attractiveness tween the rights of individuals and the inter- in the regulatory and tax areas. ests of business. Ukraine has one of the highest growing In- The responsible governmental authorities are ternet user communities in the region. The preparing draft laws that will significantly re- number of Internet users grew 76 times dur- duce the tax burden on companies in ICT. The ing 2000–2011. However, Ukraine remains Chamber is monitoring new legislative initia- one of those countries with the lowest levels tives in this sphere and is continuing its ongo- of Internet penetration, with only 34 percent ing dialogue with the Ukrainian government of population using the Internet. Ukrainian and business, with the aim of developing the Internet users are very active in social net- most favorable tax regime for IT businesses. working in comparison to users in other na- It is very important for Ukraine to develop the tions in the region, which makes it possible to ICT sector in line with global tendencies. The effectively use modern ICT in market related Chamber pays significant attention to devel- and e-government activities. opments in the EU ICT sector. The main con- The Chamber is continuing to work on the fur- cepts of the new Digital Agenda initiative of ther development of the Ukrainian ICT sector, the EU, the i2010 strategy’s successor, have to which will provide a basis for socio-economic be implemented in Ukraine. transformation, develop a functioning market An essential role in ICT development in Ukraine economy, strengthen civil society, and promote will be played by e-government — a form of the democratization of the Ukrainian state. government in which there is active interaction between the state and local authorities, as well The Chamber monitors structural changes in as with the information society, people, and this area on a regular basis. Over the first half businesses via information and communica- of 2011 a number of positive developments in tion technologies. This technology substantial- the ICT sphere took place. ly increases the efficiency of government func- Parliament, for example, in June 2011 adopted tions and can drastically decrease the midlevel amendments to the Law of Ukraine “On Per- corruption that is responsible for administra- sonal Data Protection” in order to strengthen tive burdens and excess transaction costs. responsibility for breaking the law. It does the E-government is already functioning in all following: neighboring countries, providing much more • Enhances conditions for the effective pro- comprehensive services to its users. Ukraine tection of personal data, and provides for seems to lag behind in this process, which the European concept of human rights and adversely affects its competitiveness. Taking freedoms, by improving the balance be- into consideration the importance of estab- tween human rights, society, and the state lishing e-government, the Chamber is help- in this area; ing elaborate the Draft Concept of E-govern- ment in Ukraine for the period till 2015. The • Promotes information resource develop- existing Committee on e-government within ment, the strengthening of private owner- the FDIC under the President of Ukraine, on ship of information products, the provision which the Chamber plays an active role, is of information sovereignty, economic pros- also involved in this work. perity, and national security; Currently Ukraine is making significant pro- • Enhances the ability to combat computer gress in establishing an e-government sys- crime; tem. Strong political will for moving in this • Provides for the further development of the direction has been expressed by top state of- information society. ficials. As the Head of the State Committee on

62 www.chamber.ua Information & Communication Technologies

Science, Innovation, and Information report- The IT Committee, along with the Chamber’s ed in August 2011, the Ukrainian government Telecom Committee, has become a collabo- will switch to using electronic documents in ration platform for ICT businesses on both January 2012. technical and business matters. The Ameri- Considering all of the above, it is worth men- can Chamber of Commerce in Ukraine, hav- tioning that ICT development in Ukraine will, ing drawn on the experience of numerous first of all, contribute to Ukraine’s European experts and partners from the Public Council integration. ICT can also strengthen state in- on ICT, has thus developed a comprehensive formation security, improve Ukraine’s infor- action plan for ICT development in Ukraine. mation environment, and avert the informa- The 2011–2012 version of the “Partnership tion wars and special operations that occur for Successfully Competing in the Global in other countries. The future of Ukraine de- Economy” contains a special section entitled pends on its ability to develop and implement “The Role of ICT in National Competitiveness” public information policy, but this is impos- that digs deeper into this subject and puts sible due to its lagging behind other countries forward 10 concrete recommendations on in terms of technology and regulation. how Ukraine can move forward in this regard.

63 Uniting Leading Companies from over 50 Nations Across the Globe 9. INTELLECTUAL PROPERTY RIGHTS

Personal Data Protection in Ukraine: Legislative Innovations

Protection of the interests of individual in the of Ukraine. Section 2 of the Article 32 of the field of information is, in particular, includes Constitution prohibits “gathering, storage, the aspect of personal data protection which use and distribution of the confidential infor- is relevant for any activity of an individual, mation about an individual without his/her society and the state generally. The under- consent, except the cases stipulated by the standing of the importance and necessity of an legislation and exclusively in the interests of effective protection mechanism for the per- national safety, economic well-being and hu- sonal data affects well-being of an individual man rights”. Additionally, social relations con- as well as of the state generally. The Ukrain- nected with gathering, storage, use and distri- ian legislation, which regulates the legal rela- bution of information about an individual are tions in the field of protection of individuals’ regulated by the laws of Ukraine “On Informa- personal data is based on but not limited to tion Protection in Software Systems” and “On the following legislative acts: the Constitution the State Register of the Individuals — Taxpay- of Ukraine, the Convention for the Protection ers and Payers of Other Mandatory Fees”, the of Human Rights and Fundamental Freedoms Decree of the President of Ukraine # 12 as of of 1950”, the First Protocol and the Protocols January 11th, 2002 “On Measures in Connec- # 2, 4, 7 and 11 to the Convention, the Con- tion with the Individuals’ Registration”. vention for the Protection of Individuals with Ukraine endeavors to harmonize with the Regard to the Automatic Processing of Per- standards of the European Union in the sonal Data and the Additional Protocol to the field of personal data protection. In this re- Convention for the Protection of Individuals spect Ukraine made an important step hav- with Regard to Automatic Processing of Per- ing adopted the long-awaited Law of Ukraine sonal Data regarding Supervisory Authori- “On Personal Data Protection” (hereinafter ties and Trans-border Data Flows, the Law of referred to as — the Law) which came into ef- Ukraine “On Information”, the Law of Ukraine fect on January 1, 2011 and having ratified the “On Access to the Public Information”, the Law Convention for the Protection of Individuals of Ukraine “On Personal Data Protection”, the with Regard to the Processing of Personal Law of Ukraine “On Amendments to the Cer- Data and the Protocol to the Convention for tain Legislative Acts of Ukraine with Regard the Protection of Individuals with Regard to to Aggravation of Liability for the Violation of Automatic Processing of Personal Data re- the Legislation on Protection of Personal Data” garding Supervisory Authorities and Trans- st which will be effective since January 1 , 2012. border Data flows. The development of the Thus, protection of the information about an draft Law “On Personal Data Protection” individual is guaranteed by the Constitution started in Ukraine in early 1996. However, the

64 www.chamber.ua Prepared by: Intellectual Property Rights draft in those times has not been adopted due without his/her consent except the cases stipu- to the major shortfalls. The adoption of the lated by law and only in the interests of national new Law and ratification of the Convention security, economic well-being and protection were aimed at approaching of the Ukrain- of human rights”. The following information ian society to the European standards of in- is also pertains to the confidential information formational protection, in particular, to the about an individual: “the data about his/her na- standards of protection of: personal data of tionality, education, civil status, religion, health individuals, harmonization of the Ukrainian as well as address, date and place of birth”. legislation and bringing it into compliance Therefore, pursuant to the definition of “the with such statutory acts as the Conventions personal data” the main criteria according to “On the Protection of Individuals with Regard which information about an individual may be to Automatic Processing of Personal Data” defined as the personal data are the following: th which was signed on January 28 , 1981 in “identification” or “possibility of identification”. Strasburg and the Directive 95/46/EU of the However, the law does not provide the defini- European Parliament and Counsel of October tion of the wording “identification”. The Di- th 24 , 1995 “On Protection of the Individuals rective 95/46/EU stipulates the following with while Processing of Personal Data and Free regard to identification: “in order to establish Transfer of Such Data”. However, the adoption whether an individual is the one which may be of the Law “On Personal Data Protection” gave directly identified, it is necessary to take into rise to many discussions and disagreements consideration all possible factors which may around the Law. Some of its definitions allow be and will be most probably used by the own- quite a wide interpretation, thereby creating er of information as well as any third party for grounds for legal collisions. The problems identification of such individual”. which are currently raised by the individu- als and legal entities engaged into personal The Law also envisages the mandatory re- data’ legal relations are the following: scope of quirement for the registration of the personal data governed by the Law; the criteria based databases8.1Having analyzed the provisions of on which information about an individual is the Law we defined the following basic data- defined as personal data; particularities and base criteria: title (a data base should have a forms of granting consent by an individual for name); plurality (a data base should contain the processing of his/her personal data; legal personal data of more than one person); or- grounds for third parties being entitled to use derliness (personal data in a data base should personal data of an individual, etc. be organized in some way); intended purpose (data contained in a data base should have a The Law defines the personal data of individu- specific purpose of their processing). al as any data or a set of data of any individual that lead or may have lead to the identification The legislator clearly stipulated that consent of the individual. The similar definition of the of an individual for transfer of personal data personal data is also granted by the Conven- is any documented, in particular, in writing, tion of the European Council “On the Protec- free declaration of will of an individual to al- tion of Individuals with Regard to Automatic low processing of his/her personal data ac- Processing of Personal Data and Transfer of cording to a formulated purpose of their pro- Such Data” dated October 24th,1995 (here- cessing. Therefore, the holders of personal inafter referred to as — the Directive 95/46/ databases92need to obtain a written consent of EU). Article 11 of the new version of the Law the individuals whose data is to be processed. of Ukraine “On Information” equates the defi- 8 A titled set of organized personal data in electronic form nition of the personal data with information and/or in the form of personal data cards. about an individual. The same article prohibits 9 Personal database holder is an individual or legal entity au- thorized by law or by consent of the owner of a personal data “gathering, storage, use and distribution of the for the processing of such data, which sets the purpose of per- confidential information about an individual sonal data processing in corresponding database, composi- tion of such data and procedures of their processing.

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Such consent may be executed as an unilateral We are of the opinion that it is necessary to instrument or a bilateral agreement and, for expand the list of grounds for the use per- the avoidance of any possible claims of per- sonal data, namely to amend to Article 11 of sonal data subjects, supervising authorities or the Law the following grounds for the arising any third parties, it should contain the list of all of the right to process the personal data of the types of processing of personal data10,3which individual: are planned to be carried out as well as all types • conclusion or execution or a legal agree- of data. If a personal database owner wishes to ment, a party of which is the owner of the expand the list of actions with personal data personal data; and/or the purpose of such actions after a written consent is obtained, a written approval • necessity to protect vital interests of the of such change should be granted by the owner owner of the personal data; of the personal data. The obligation to register • necessity to implement governmental pow- personal databases as well as the execution of ers by the holder of a personal database or the state supervision for the legislative execu- an individual to which personal data is dis- tion as for the personal data protection is im- closed; posed to the State Service for Personal Data Protection — the central body of the execution • execution of a legal obligation by the holder power, the activity of which is coordinated by of a personal database; the Cabinet of Ministers of Ukraine with the • obtaining of the personal data from public assistance of the Ministry of Justice of Ukraine. sources; Regardless to the numerous advantages of the • processing of personal data is provided for abovementioned Law, it also contains some statistical or other scientific purposes with drawbacks and shortcomings which need to the mandatory depersonalization114of per- be eliminated. We consider that the Law of sonal data. Ukraine “On Personal Data Protection” should We are of the opinion that the written form of be amended in order to stipulate the list of cas- individual’s (the owner of the personal data) es in which the state registration of personal consent for the processing of his/her per- databases is not required, in particular with sonal data, which is the mandatory require- regard to the following types of databases: ments of the Law significantly complicates • databases containing only personal data of the procedure of obtaining of such consent. the individuals (employees) having labor Thus, the Law should envisage the possibility relations with the owner of such personal of obtaining of the individual’s consent in oral database and which have been created ex- form, for instance, with regard to employees clusively for the purposes of exercising of databases kept by employers. labor relations between the owner of the personal databases and employees; Therefore, summarizing the issues of per- sonal data protection in Ukraine it is neces- • databases obtained by the holder of personal sary to emphasize that the adoption of the database as the result of a legal agreement special Law which regulates the issues of use concluded with an individual (the owner of and protection of individuals’ personal data the personal data), in case when such per- is a positive step. However, it is evident that sonal data is used exclusively for the pur- aforementioned Law needs to be improved poses of execution of such legal agreement; and amended in order to simplify the practi- • databases containing information from cal application of its provisions. public sources.

10 Personal data processing is any action or a set of actions 11 The exclusion of the data which gives the possibility to with personal data connected with gathering, registration, identify an individual. storage, change, use, distribution, destruction, deperson- alization of personal data, etc.

66 www.chamber.ua Prepared by: INVESTMENT POLICY 10. INVESTMENT POLICY The Most Promising Sectors for Investing in Ukraine

The most attractive sectors for investment at the moment are the following: • Agriculture. • The alternative energy sector. • Retail. • Pharmaceuticals.

Agriculture

Ukraine’s agricultural sector makes up about According to UNO data Ukraine is among the 10 percent of the country’s GDP and provides three world leaders in terms of dynamics of the population with 95 percent of its food, agricultural production (after Brazil and Rus- making for one of the highest rates in the sia). The sector becomes even more attractive world. Ukraine’s agricultural products market when we take into consideration the dynamic has vast potential to grow in absolute num- growth of food prices in 2010—2011 in the bers and to substitute many import positions. world as a whole and in Ukraine in particular.

5-year prospect: and due to the soft money policy of world • increase in internal consumption and ex- central banks; port volumes; • improvement of conditions for enterprises’ • substitution of imports with domestic pro- activity due to state support; duction; • increase of competition due to sector at- • favorable conjuncture on the world markets tractiveness; over a prolonged period of time due to the • increase of competitiveness of domestic increase of demand on the Asian market products compared to imported ones.

Sector risks: • unsolved issue concerning moratorium on • high competition from huge agricultural selling lands. companies;

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Tax benefits for agrobusiness in Ukraine

Tax Common Agricultural enterprise enterprise profit tax 23% fixed agricultural tax (FAT) about 35–50/ha per year (3–5 EUR/ha per year) The Law of Ukraine “On fixed agricultural tax” VAT 20% 0 percent an agricultural enterprise can choose a special tax regime The Law of Ukraine “On value added tax” According to the special tax regime, value added tax is not payable to the budget and remains in the full possession of the agricultural enterprise for operational purposes. concessional lending no government budget every year provides funds to compensate a part of interest expenses on loans to the agricultural sector

We consider the agricultural sector of Ukraine the considerable rise in grain crop prices in to be the most profitable investment oppor- recent years, and the increasing world “food” tunity in the real sector at the moment. crisis, which will push prices up, we see huge We believe that in terms of investments/prof- potential for grain growth and the growth of its correlation, the most promising area in other cultures. agriculture is poultry breeding and egg pro- In our opinion the agricultural sector has duction. Next come pork/beef production and huge room for growth, including full import gardening. These are more cost-based types substitution; domestic products, particularly of investments. ones that come from livestock, such as fresh Taking into account the high fertility of black meat, have considerable advantages over soil in Ukraine, state support of agriculture, foreign ones.

Alternative Energy

On January 1st, 2009 Ukraine adopted a fixed • import of energy-saving equipment is ex- "green" tariff for electricity produced from empted from taxes (VAT and customs duties); renewable electricity sources. The “green” • VAT will fall from 20 percent in 2010 to 17 tariff for enterprises that produce electrical percent in 2014. energy using alternative resources of energy is fixed until January 1st, 2030. In Ukraine, then, the most favorable condi- tions have been created for the development st The new Tax Code took effect on January 1 , of the wind energy sector. 2011. According to it: Considering all these factors, the payback • manufacturers of electricity produced from period for a WPS construction project is 5–7 renewable sources are exempted from in- years, exactly in line with the benchmark for st come tax for 10 years (from January 1 , the European market. 2011 to January 1st , 2021);

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"Green" tariff coefficients for different types of plants

Type of plant Capacity, kW Coefficient of "green" Fixed minimal tariff amount of "green" tariff, EUR/kWh wind power station < 600 1.2 0.065 wind power station > 600, < 2 000 1.4 0.075 wind power station > 2 000 2.1 0.113 biomass no restrictions 2.3 0.124 solar (land objects) no restrictions 4.8 0.258 solar (installed on the roof of a < 100 4.4 0.237 house/building) solar (installed on the roof of a > 100 4.6 0.248 house/building) small hydro power station no restrictions 0.8 0.043

"Green" tariff coefficients for different types of plants

Retail Sector

Retail is one of the most dynamically develop- tunities for investors. In 2010 prices for a wide ing branches of the Ukrainian economy, con- range of food products increased in Ukraine tributing 16 percent to the GDP of the country. (by 2–3 times); price increases for a range of A rapid increase in personal income in the first other products were also noted. In the mean- decade of the new millennium promoted high time, the actual volume of goods turnover in- rates of market development and the appear- creased (+7.8 percent). ance on it of some big players. The financial and The most unfilled segment is currently re- economic crisis of 2008–2009 struck the sector tail in big commercial centers. The range of considerably, but also eliminated such prob- big international players is unrepresented on lems as high prices for building land and high the Ukrainian market, which is significantly rents. Renewed growth in personal income in weakening business. There are insufficient 2010 served as an impetus for economic rede- sales areas and the activation of home con- velopment. The retail sector is exceedingly at- struction and the development of transport tractive for investment because the market is infrastructure before EURO 2012 are signifi- large and under-occupied. cantly increasing attraction of retail business. Features of the Ukrainian retail market: Special attention will go to the non-competi- • the Ukrainian retail market is rather young tive conditions outside the big regional cent- and, as a result, is insufficiently filled in and ers. The most high-potential niches are food formatted; retail in the regions and e-retail. • in the big cities, the big grocery hypermar- The retail sector is considered to have a lot of ket niche is the least filled-in; potential due to an unfilled market, weak ac- • e-retail is dynamically developing. cess barriers, and available growth potential. The retail sector in Ukraine is very young, leading to non-occupancy and thus to oppor-

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Pharmaceuticals

The pharmaceutical industry plays a signifi- Pharmacy market. As of January 1st, 2011 cant role in the Ukrainian economy, repre- there were 22,123 valid licenses for medicine senting an important segment of the domestic retail in Ukraine; such a license is obligato- market. During the last five years the industry ry for establishing a pharmacy. The licenses has shown a strong upward tendency. Market broke down as follows: 50.1 percent — phar- size (medicines only) is around 2.4 bln USD. macies with a predominance of prescription medication; 34.9 percent — pharmacies with a The Ukrainian pharmaceutical market has predominance of over-the-counter drugs; 5.3 grown rapidly for the last seven years. Al- percent — pharmacies in hospitals; 9.6 per- most all segments of the market have de- cent — supermarket pharmacies. Notably, the monstrated double-digit CAGR rates, as fol- share of supermarket pharmacies is growing lows: retail medicines — 25 percent, hospital rapidly, especially in the capital. medicines — 9 percent, PCS (patient care systems) — 21 percent, PAC (personal care Conclusions: products and cosmetics) — 110 percent, BAD • the pharmaceutical market is one of the (biologically active additives) — 73 percent. most secure (protected) markets in condi- Import. Foreign producers hold 74 percent of tions of crisis. Demand for medicine doesn’t market share in money terms and 36 percent fall significantly. The Ukrainian population of market share in real terms. This discrepancy doesn’t save on medicines; is explained by the high cost of import medi- • there are big opportunities as far as goes cines, which creates unique possibilities for replacement of imported high-cost medi- import replacement by domestic producers. cines; Distribution is highly concentrated among • supermarket pharmacy chains are rapidly the top 10 companies, which have 80 percent growing. They represent the most high- of market share. Leading companies are dem- potential segment of Ukraine’s pharmacy onstrating astounding growth. market.

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Uniting Leading Companies from over 50 Nations Across the Globe 10. LEASING

Leasing Market: Overview and Trends

Today, the leasing market is the third largest the rating of the quantity of contracts and 4th segment of the Ukrainian financial services place in the rating of the volume of financing market by the size of its assets, after bank- in cash equivalent during the entire period of ing and insurance. At the end of 2011 it is ex- Ukraine’s leasing history. Growth of the leasing pected that the volume of the leasing portfolio penetration rate of up to 6 percent (as against (financial leasing) will have reached 35 billion 2.7 percent in 2010) is expected due to leas- UAH, showing 14 percent growth for the year. ing volume growth and to the quiet, temperate New leasing business has increased in com- growth of investments in fixed assets. parison with 2010 by more than 140 percent. Among financial leasing contracts in 2011, We thus expect a volume of new leasing con- agreements in the transport sector still domi- tracts of more than 11 billion UAH. There have nated, making up about 56 percent of the total. been significant results for the third quarter The share of leased vehicles was 3.6 percent of 2011 — contracts were concluded amount- in 2011; it could reach 5 percent by the end of ing to 4.4 billion UAH (equaling 2,828 leasing next year. agreements). These figures hold 3rd place in

Car sales in Ukraine 2005–2016, PCS

The banking sector met with difficulties at the eration with dealer networks and added extra end of 2011, which could activate growth of value to their services. Euro Leasing present- demand for leasing services in 2012. It is ex- ed new leasing programs for the Fiat and GAS pected that next year the car leasing market brands within the territory of Ukraine and of- volume will reach 26,000 vehicles and that the fered great interest rates for car leasing. Also car leasing segment with service support will on offer was a special price for a limited quan- reach 4,500 cars at the end of 2012. tity of Ford commercial vehicles. For every car it leases, Euro Leasing offers a unique multi- In competing for clients in 2011, market play- brand fuel card and access to Fleet-online (an ers offered various special programs in coop- on-line fleet reporting system) free of charge.

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Euro Leasing specializes in financing transport • Multi-brand fuel card: discounts for fuel for business with additional service support. at six leading networks of Ukraine — WOG, It provides customers with one invoice for a ТNК, Shell, LUKOIL, Parallel, and Neftek — whole range of products that a client can use with access to online fuel reports (date, for easy planning and budgeting. Euro Leasing time, address, volume, and cost of fuel). offers transport solutions for successful man- • Additional services: every client can form agement of client fleets: an individual service package in accordance • Vehicle financing: financial and operative with his business needs (replacement cars, leasing of cars, LCVs and trucks for clients’ pick-up and delivery of the vehicle, seasonal business needs replacement and storage of tires, driver ser- • Fleet-online: fleet management offering vices, technical support all over Ukraine, etc.) web access to fleet database support, a pow- • Insurance can be used not only by Euro erful tool for organizing efficient fleet op- Leasing clients but also by any other compa- eration, and the possibility of getting useful ny; Euro Leasing offers vehicle insurance to information online. In present market con- protect against damages on the roads, theft, ditions, when optimization of business pro- driver and passenger accidents, etc. cesses and expenditures is one of the most Euro Leasing is an expert in financing trans- pressing issues, this product optimizes and port for business; our managers are always improves the operations of large corporate glad to assist with various questions (account- fleets, which in turn increases their competi- ing, juridical etc.) to improve the efficiency of tiveness. At the core of Fleet-online is a data client fleet-management. information system reflecting fleet activ- ity and providing for detailed reports about road accidents (including pictures), regular maintenance and repairs, and mileage and fuel consumption for each car as well as for the whole fleet.

73 Uniting Leading Companies from over 50 Nations Across the Globe 12. LEGAL SYSTEM OVERVIEW

The Role of Courts in Protection of Investors' Rights in Ukraine

Mr. Andrey Kuznetsov, Partner, Antika Law Firm

In August 24th, 1991, Ukraine became inde- enforcement of judgments is rather difficult, pendent and set its course on development and the Ukrainian judicial system stands out of the market economy. On one hand, this due to its very low predictability. contributed to the development of Ukrainian Though the government tries to deal with companies due to the ability to attract for- such flaws by improving legislative regulation eign investments, and on the other — this al- in this area (e.g., judicial reforms in 2008 and lowed investors to receive long-term profit 2010), the system still doesn't cause enough in Ukraine. confidence, and thus most investors try to Such mutual interest promoted foreign busi- apply to international courts for protection. nessmen to invest funds into the Ukrainian Such court instances are, for example, the In- economy. For example, in 1995, according to ternational Centre for Settlement of Invest- the State Statistics Service of Ukraine, the ment Disputes, the European Court of Human total volume of foreign direct investments Rights, international arbitration institutions, amounted only to 483.5 million dollars, while arbitration courts and national courts of for- in 2011 it has increased to 44.7 billion. Where- eign jurisdictions. by the main partners of Ukraine in attraction However, it is necessary to consider that the of investments from abroad are the countries role of the Ukrainian judicial system is the of the European Union, the share of which key measure of protection of foreign invest- is 35.32 billion (unfortunately the U.S.A. ac- ments in Ukraine, since appeal to interna- counted for only 2.2 percent of foreign in- tional courts usually requires the exhaustion vestments in Ukraine in 2011). of local administrative or judicial remedies, Despite the large number of investors, who as defined by the Convention on the Settle- are interested in making profit in Ukraine, ment of Investment Disputes between States one of the factors that hinder the flow of and Nationals of Other States. Also, disputes additional investments into the Ukrainian in certain areas, as defined by the legislation economy is the concern of a potential part- of Ukraine (for example, in tax or corporate ner regarding protection of his/her rights relations), are considered by the Ukrainian and legitimate interests. Some investors still courts only. It should be noted that foreign in- believe that the Ukrainian judicial system vestments are provided with the national sta- lacks transparency and publicity of litiga- tus, and thus an investor is provided with the tion, and that litigation is unreasonably pro- right for judicial protection on equal terms longed. Also, according to their opinion, the with domestic investors.

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The modern Ukrainian judicial system con- Higher Commercial Court of Ukraine, the sists of courts of general jurisdiction, name- Higher Administrative Court of Ukraine and ly, commercial, administrative and general the Higher specialized court of Ukraine on (civil) courts. consideration of civil and criminal cases). The Consideration of a particular case by a re- peculiarity of these courts is that they review spective court depends on subjects of a dis- cases in cassation proceedings and deter- pute and the nature of a dispute and is regu- mine the correctness of application of the law lated primarily by procedural codes. by courts of first and second instance. The higher courts of Ukraine can adopt decisions The commercial courts consider disputes on leaving the court decisions of previous arising between businesses during exercising instances in effect, their cancelling, and may their activities (e.g., disputes regarding im- also send the case back for reconsideration to proper performance of a contract). The cor- the court of first instance, or to adopt another porate disputes are also subject to the juris- decision regarding the case themselves. diction of commercial courts (e.g., disputes of members of a company with foreign invest- The Supreme Court of Ukraine is the highest ment with such a company, or with each other authority in the state system of courts of gen- regarding the issues of management and op- eral jurisdiction. It reviews cases in the order eration of a company). of exceptional proceedings, i.e. if there is an unequal application of law by the higher spe- If the state is a party of a dispute, such a dis- cialized courts in similar legal relationships, pute is under jurisdiction of the administrative including in the investment area, or if an in- courts. The examples are disputes between a ternational judicial institution determined person or an entity with the tax authorities of violation by Ukraine of international obliga- Ukraine, or disputes regarding registration of tions during consideration of a case by the investments, recognition of illegal actions of Ukrainian court (e.g., breach of agreements government agencies and etc. on mutual protection of foreign investments). General (civil) courts may hear all cases apart Usually, consideration of cases in the Supreme from the cases that are within jurisdiction of Court of Ukraine is allowed after admission by commercial and administrative courts. a court of cassation (i.e., if the case is a com- According to the recent judicial reforms, each mercial dispute, the statement on initiation of of the above branches of courts of general proceedings in the Supreme Court of Ukraine jurisdiction has four levels (instances) in ac- must be submitted to the Higher Commercial cordance with the powers and functions en- Court of Ukraine only). If violation of interna- visaged by current legislation of Ukraine. tional obligations of Ukraine by a Ukrainian court during consideration of a case is the ba- Local courts, as the courts of first instance, sis for revision of a case, the issue of initiation decide on the merits of the case, and therefore of proceedings in such case is decided by the are entitled to establish factual circumstances Supreme Court of Ukraine itself. of a case by examining evidence collected in a case on the basis of their own beliefs. Thus, it is possible to conclude that the judi- cial system of Ukraine is developed enough The courts of appeal are courts of second for an investor to have the guaranteed by the instance. Their authority includes review of state opportunities of protection of his rights cases received from the courts of first in- and interests, although many believe that stance because of appeal against a judgment there are still some flaws. In particular, they of a local court. indicate the lack of qualification and quantity The third instance of courts of general ju- of judges, the lack of unified practice on reso- risdiction are respective higher courts (the lution of similar disputes, low quality and ef-

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ficiency of legal proceedings; low transparen- of the Supreme Court of Ukraine, which were cy and publicity of courts. Also, it is believed significantly enhanced in October, 2011. Par- that the legislation of Ukraine doesn't ensure ticularly, the Supreme Court of Ukraine was all interests of potential investors in other ar- entitled to adopt new decisions during revi- eas of relations (e.g., in the tax area). Entre- sion of cases in the order of exceptional pro- preneurs' criticism is also caused by massive ceedings (it was deprived of such right before). failures of enforcement of court decisions due Also, lower instance courts are now obliged to imperfection of enforcement legislation, to apply resolutions of the Supreme Court of lack of technical and human resources in the Ukraine in their practice, which should fa- related services. cilitate the formation of judicial practice in Despite all the flaws in the Ukrainian judicial Ukraine. This means that it is possible to see system (and the law in general), it should be a positive trend in the development of the noted that the legislator is trying to stream- judicial system, which is aimed at protection line the judicial system and thus to improve of the rights and legitimate interests of both the investment climate in Ukraine. For exam- physical persons and legal entities. ple, during recent years notable reforms were Thus, an investor, despite the existing prob- made, due to which the Ukrainian judicial sys- lems, provided that he abides by the appli- tem has obtained its modern form, and it be- cable law, can effectively protect his/her in- came more responsive to the needs of today. vestments in Ukraine with the assistance of Also, there have been changes in the powers experts in the field of judicial defense. New Anti-Corruption Laws In Ukraine: a Beautiful Fa ade with Window Dressing?

Dr. Daniyil Fedorchuk, LL.M., Ph.D. Associate BEITEN BURKHARDT Attorneys-at-Law

Ukraine, an emerging East-European econo- The 2004 Orange revolution inspired inves- my with a population of 45 mln. lures invest- tors’ hopes for comprehensive reform; how- ment from abroad by vast business oppor- ever, the situation has not improved much, tunities, such as unique geographic location, and arguably worsened in recent years. In- well-educated but relatively inexpensive vestors continue to wade through massive labor force, rich natural resources, tremen- red tape in dealings with state and munici- dous agricultural potential, huge consumers pal authorities (from receiving licenses, cer- market. However, Ukraine’s investment at- tificates, permits, approvals, complying with tractiveness is greatly marred by a risky and numerous reporting, filing, and renewal re- unpredictable business environment, overly quirements, to seeking to lease or purchase complex and contradictory laws, poor en- land plots or trying to have court judgments forcement of contracts and — particularly — by duly and timely enforced), operate in a non- staggering corruption, problems which have transparent closed business environment consistently kept Ukraine at the bottom of the dominated by elite cartels and are forced to country rankings in international ease-of- depend upon ineffective administrative ma- doing-business and corruption indices. chinery deeply eroded by corruption.

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Despite a common perception that Ukraine • undue combination of an office with other lacked any anti-corruption regulation prior paid-for employment, commercial activities to 2011, Ukrainian criminal law has always or with any positions in management bodies contained provisions on bribery. Among of corporations; those activities punishable by imprisonment • undue gifts (except for gifts bestowed un- include any proposal, payment, solicit of, and der the common hospitality customs, for the acceptance by or extortion of a bribe from a amount not exceeding 50 percent of mini- public servant, as well as by officials of pri- mum wages (EUR 45)); vate companies and organizations in connec- tion with exercise of a bribees’ official powers • nepotism in employment or public service in the interests of a briber or any third parties. (with some rather narrow exceptions). Absent any clear statutory definition, bribing Additionally, the 2011 Law introduced anti- was traditionally interpreted by the courts corruption measures, such as (most impor- very broadly covering not only direct money tantly) mandatory annual declaration of in- payments but also any unlawful favours of come, expenditures and shareholdings by pecuniary value (such as paying travel or ac- state and municipal officials, measures aimed commodation costs, giving cars for use, gifts), at preventing conflict of interests, mandatory including those in illusory form (such as con- anti-corruption evaluation of draft regulatory clusion of fictitious contracts, overpayment acts. Last but not least, the 2011 Law envisages for services, etc.). As such, it is not the want introduction of a public register of corrupt of- of laws but rather their sluggish enforcement fenders which is to be set up and maintained which has brought about wide-spread cor- by the Ministry of Justice as of 01.01.2012. ruption in Ukraine. However, a closer look at the 2011 Law reveals In April 2011, in efforts to improve a gloomy that it is very likely to make anti-corruption country image, Ukraine adopted a long- actions in many respects more difficult and awaited Law “On the Principles of Prevention unpredictable. The 2011 Law blurs the bor- and Countering of Corruption” (effective as derline between totally different offences, of 01 July 2011) (the “2011 Law”) which was such as unlawful enrichment, bribery, and enacted to tackle and eradicate wide-spread unlawful receipt of a gift. “Unlawful ben- corrupt administrative and unfair commer- efit”, as defined in the 2011 Law (any money cial practices, in conformity with universal- or other assets, advantages, privileges, ser- ly-recognized principles and the GRECO re- vices of pecuniary or non-pecuniary nature), quirements. is hardly distinguishable from a well-estab- Consistent with international anti-corruption lished understanding of bribery (money, as- treaties, the 2011 Law extends liability to cor- sets, property rights, acts or omissions of a rupt offenses committed by public services pecuniary nature, including those in illusory providers (e.g., notaries, lawyers, arbitrators, form); and these two concepts are not easy to appraisers, etc.), foreign public officers and reconcile with a concept of an undue gift. For international servants, all of which formerly instance, prior to the 2011 Law entering into fell outside of the scope of the Criminal Code force, a favour valued at EUR 4,000 given by bribery and abuse of powers provisions. a private company officer to a public servant authorized to supervise the company’s op- In addition, the 2011 Law forbids four promi- erations would unequivocally fall within the nent unfair practices, namely: scope of bribery punishable, irrespective of • undue use of office or position by officials its amount and would subject both parties to (e.g., aiding and abetting in securing subsi- criminal liability (2 to 5 years in jail for the dies or in public procurement procedures) bribee and a considerable fine or restriction in exchange for unlawful benefits; of liberty for the briber). After 01.07.2011,

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the same gratuity may be deemed (i) a bribe any unlawful benefits to the officers of pri- (severe criminal punishment irrespective of vate companies in connection with their ex- amount), (ii) an unlawful benefit (in many ercise of powers in the interests of a benefit cases criminally punishable, but this amount giver. In view of the “catch-all” nature of the qualifying only for an administrative offense “unlawful benefit” definition, this prohibition and leading to a moderate fine), or (iii) an un- may be interpreted far beyond paying kick- due gift (an administrative offense leading to backs and comparable unacceptable practic- even less serious consequences), the qualifi- es, and deemed to customary business inter- cation of the gratuity being totally in hands action such as invitation of a business partner of the state anti-corruption authorities. In the (e.g., a supplier) for a lunch or a football game, sad Ukrainian reality, such unlimited discre- which would be contrary to the very spirit of tion to judge and prosecute in the absence of the anti-corruption regulation. any clear application guidelines invariably Thus, despite the introduction of very im- means more corruption. portant anti-corruption measures (financial Moreover, a major role in facilitating circum- control, prevention of conflicts of interest), vention of anti-corruption measures was the 2011 Law is likely to hinder application earlier played by the Constitutional Court. In of criminal and administrative laws due to its a very controversial decision on 06 October ambiguous nature, thereby creating a poten- 2010 (case No. 1–27/2010) the court allowed tial for increased corruption. At the same time, public officials to pursue other paid-for ac- the private sector may face an unreasonable tivities (such as teaching, coaching, medical risk of criminal prosecution for normal busi- practice, etc.) during working hours (on the ness practices. Moreover, the 2011 Law allows rather ridiculous ground that the Constitution a number of ways for its evasion, in particu- guarantees to anyone a freedom of activities), lar, through involvement of close relatives as well as—much more importantly—prohib- who have been rendered immune from anti- ited family members of public officials from corruption measures. And most importantly, being subject to financial control regarding the 2011 Law is unable to resolve the ultimate their personal sources of income, expendi- obstacle to every anti-corruption campaign tures and corporate rights, on the ground in Ukraine — the lack of a genuine will to rig- that such control would unduly interfere with orously enforce the law against high level of- their private life. As a result, the Constitu- ficials, those who are primarily responsible tional Court de facto granted unscrupulous for the miserable image of Ukraine abroad. public servants a path to freely engage their As a result, the 2011 Law strongly smells of family members as formal beneficiaries of yet another state-sponsored masquerade corrupt payments. This immunity remained aimed at constructing a nice-looking fa ade undisturbed in the 2011 Law. of a corruption-free mansion, but with rot- On the other hand, the 2011 Law related ten foundation and rats sneaking behind. We amendments to the Criminal Code banned would love to be mistaken…

The shortened version of the article was published in Business Ukraine journal, November 2011

78 www.chamber.ua Prepared by: Legal System Overview Ukrainian Competition Policy: a Glance over the Curtains

Ms. Maria Nizhnik, Counselor, Mr. Sergey Denisenko, Associate Vasil Kisil & Partners Law Firm

The year 2011 has been fairly eventful for petition legislation developments and organi- the Antimonopoly Committee of Ukraine (the zational changes within the Committee. “AMC”), both in terms of antitrust and com-

Merger Clearance Issues

The AMC continued to intensify its control Ukraine (the “CMU”) and may vary depend- over the scope of information submitted by ing on the priorities of the latter. This means the parties to the concentration. Except for that certain jurisdictions (e.g. Cyprus), which the special software introduced by the AMC in are not yet on the list, may occasionally be in- the early 2011 (which provides for increase of cluded thereto causing additional complexi- AMC’s control over parties’ historical trans- ties for the applicants. actions and identification of the reportable In 2011 the AMC also introduced amended transactions closed without the AMC permit), procedure regarding the payment of the state the new developments were recently pre- fee required for the consideration of the ap- sented by the authority providing for broader plications submitted to the authority. Based disclosure of the information related to the on respective amendments, foreign appli- applicants’ relations of control. cants are now allowed to pay filing fees in Based upon respective developments to the Euros or US Dollars. Earlier the payments on Concentration Regulation, which entered behalf of the applicants were practically paid into effect on August 19th, 2011, the parties in UAH by their Ukrainian representatives or to concentration incorporated in offshore affiliated companies, incorporated in Ukraine. jurisdictions are obliged to submit informa- Filing Requirements. tion regarding their beneficiary owner to the AMC as well as documents authorizing third No de minimis rule is still applicable in parties to perform the powers of nominal Ukraine, therefore there is no exclusion in shareholders and nominal directors. This re- case of absence of the substantive overlap. quirement was presented in view of making The applicable merger control rules require a the ultimate ownership structure of the ap- substantive amount of information to be in- plicants’ businesses transparent. However, in cluded in AMC filing forms. In particular, the practice, the list of the offshore jurisdictions notification must include detailed informa- is established by the Cabinet of Ministers of tion on the transaction parties, taking into ac-

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count their control relations, including regis- pany of the target/acquirer group, generating tration data, contact details, officers, amount Ukrainian turnover regardless of the markets of shareholdings/votes and the Ukrainian concerned. In other words, even in the ab- turnover of each entity of the entire target sence of the overlapping markets, the parties and acquirer groups. are bound to file detailed information about Despite the broad definition of the target their activities in Ukraine. group (extended to the sellers), the AMC, con- The applicable rules allow parties to request sidering the international practice, has re- from the AMC to be exempted from filing cently adopted a position allowing the parties certain information, if the latter does not af- to limit the definition of, and respectively the fect the decision to be adopted by the AMC. information on, a target group to companies However, in practice, the information regard- that are subject to direct/indirect acquisition. ing the parties’ activities in Ukraine (including Such limitation is only applicable if the seller the above information regarding customers, loses any control over the target as of the date competitors and suppliers) is treated by AMC of closing and the parties provide sufficient officials as mandatory, even in the absence of information and documents confirming ter- substantial overlaps, and thus, receiving any mination of such control. However, such po- exemption in respect of such information is sition is not applicable for the purpose of cal- highly unlikely. culation of triggering thresholds, i.e. in order Unfortunately the AMC still does not disclose to find out whether the transaction requires its practice in respect of the merger clearance Ukrainian merger clearance or not (whether investigations, as well as approaches taken the thresholds envisaged by law are met), the by the authority in terms of market definition entire seller group shall be considered. and transaction assessment details. There- Furthermore the notification shall necessarily fore, respective information is generally lim- include the definition of the relevant product ited to the practical experience gained by the and geographical markets, contact informa- applicants and their legal advisors. However, tion of the Ukrainian competitors, customers according to the AMC representatives, it is and suppliers and the volume of sales/gains expected that the disclosure of the respective in respect of each customer/supplier. Having AMC practices (for the most distinguished said that, notably, such information shall be cases) will become publicly available in the filed with the AMC in respect of each com- forthcoming year.

Draft Leniency Program

The AMC has introduced Draft Leniency Pro- rangements. However, practically this op- gram121envisaging indemnity for the partici- portunity has hardly ever been applied to be- pant to anticompetitive concerted practices cause of the absence of efficient procedural who assists the AMC in revealing and inves- mechanism of obtaining indemnity by the tigating of such concerted actions. Applica- participants of concerted actions. ble Ukrainian legislation currently provides The Draft Leniency Program is designated to for the possibility of granting indemnity for actually enforce the institute of indemnity in the participant of the concerted actions who Ukrainian competition law. Based on the re- informed the authority on the respective ar- spective draft, the participant of the concerted 12 Available in Ukrainian at http://www.amc.gov.ua/ actions may be exempted from liability in case amc/control/uk/publish/article?showHidden=1&art_ the latter provides detailed information on all id=206722&cat_id=206716&ctime=1319611810939

80 www.chamber.ua Prepared by: Legal System Overview participants of the cartel, its detailed descrip- the latter. The document is currently subject tion as well as evidences of the arrangements to the public discussion and comments of legal among the participants of the concerted actions. experts on its enhancement. It is expected that Moreover, draft program provides for reduction respective Leniency Program will be adopted in of the liability for the participant of concerted the coming 2012 year and will sufficiently in- actions not being the first who informed the crease the number of cartel cases initiated by authority on cartel, however cooperated with the AMC following the leniency applications.

Revision of the AMC Decisions

Updated procedure for revision of the AMC the application without consideration as well decisions has recently been introduced by the as considerably specified requirements as to authority. The amendments into the Rules on the substance of the application. Respective AMC’s cases consideration131provide for more changes will certainly contribute to estab- transparent requirements to the applications lishment of comprehensive and predictable on revision of the AMC decisions including procedure for revision of the AMC decisions. exhaustive list of conditions for return of

New Standard Requirements for Exemption from Obtaining Clearance on Concerted Actions Regarding Supply and Use of Products

New Standard Requirements to Concerted tions regarding supply and use of products. Practices142regarding supply and use of prod- Respective approaches of the AMC may differ ucts (i.e. vertical concerted actions) have been depending on the parties to concerted actions lately introduced by the AMC. Respective and direct circumstances of the case, leaving Draft Requirements envisage exemption from the burden of liability on the fact whether the obligatory requirement of obtaining AMC parties fall under the established exclusion or clearance for the vertical concerted actions. not on the market players. At present, applicable legislation of Ukraine The Draft Standard Requirements to Con- provides for certain exclusions from prohibi- certed Practices appear to establish trans- tion of the concerted actions regarding supply parent conditions for the market players to be and use of products. However, current word- exempted from obligatory obtainment of the ing of the Law on economic competition es- AMC clearance. Therefore, the document is tablishes rather wide discretion of the AMC anticipated by absolute majority of the mar- appraisal approaches to the concerted ac ket players applying distribution operation schemes in business organization. Respective 13 Temporary rules on cases consideration re violation of the competition legislation approved by the AMC on April 19th draft is currently on public hearings and it is 1994 #5 expected that shortly the draft will be finally 14 Draft Standard Requirements to Concerted Practices of completed and ready for implementation. the undertakings concerning the supply and use of prod- ucts for exemption from the requirement to obtain prior AMC clearance.

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Draft Law On State Aid

Ukrainian move toward signing the Agree- Ukraine which provided for development of ment on free trade area between Ukraine and the Law of Ukraine “On State Aid” by the end the EU provides inter alia for the condition of 2011 year. of development of effective institutional and This year a number of Draft laws “On State legislation background in the sphere of state Aid” have been publicly presented and wide- aid. Currently the system of state aid remains ly discussed. The most recent Draft Law “On one of the most undeveloped spheres in the State Aid” provides answers to a number of field of Ukrainian competition. questions on rendering of the state aid in- A number of steps were taken by Ukrain- cluding: who may be the recipient of a state ian authorities last year in order to give rise aid; forms of a state aid; liability for viola- to the development of the efficient system of tion of state aid rules; authorities of the state state aid, including (i) approval of the Concept body on state aid; procedure on cases ini- on reforming of state aid system providing for tiated as a result of illegal provision of the gradual reformation of state aid system which state aid; monitoring over the granted state should be fulfilled in 5 (five) years period; (ii) aid etc. It appears that respective Draft Law adoption of the program of Economic Reforms will build up the foundation for the system of for 2010–2014, approved by the President of state aid in Ukraine.

Fine Policies

The AMC has increased the amount of fines The AMC intensified investigations initiated imposed for violation of economic competi- for concerted actions. Moreover, the aver- tion legislation. As compared with 2010 year age number of defendants participating in the the fines for failure to obtain merger clear- cases on anticompetitive concerted actions ance permit when applicable for the parties, has increased. Food & beverage and fuel mar- which admit the violation and cooperate with kets are still closely monitored by the AMC the authority increased on average up to 15 and remain among its top priorities. This year percent — 30 percent. The similar situation is the AMC has imposed one of the largest fines observed in the sphere of provision of mis- in its practice. The amount of the fine imposed leading information to the authority as well on three major fuel market operators for the as for failure to provide the information re- anticompetitive concerted actions constituted quested by the AMC. UAH 150 mln. (equivalent to EUR 15 mln). The Moreover the scope of sanctions imposed by fine is currently being appealed in the com- the AMC has extended as well. Recently the mercial court. AMC has imposed obligation on the fuel market Recently the AMC representatives have also operator who failed to obtain merger clearance declared that control over the market of non- permit to terminate the contracts underlying food products will be intensified as well. the reportable transaction as those, which lead to monopolization of the regional market.

82 www.chamber.ua Prepared by: Logistics and Transportation 13. LOGISTICS AND TRANSPORTATION

2011 Air Code of Ukraine: What it Means for Business?

Mr. Andriy Kirmach Chadbourne & Parke LLP

In 2011, the Ukrainian parliament passed sev- national norms and practical requirements eral important legislative acts that substantial- of the aviation business. However, certain ly revised the regulatory framework in certain norms of the new Air Code demonstrate the industries, aviation being one of them. The new recent trend of Ukrainian governmental au- Air Code of Ukraine was finally passed by the thorities to exercise hands-on management parliament on May 4th, 2011 and came into legal of certain business areas and control over effect on September 17th, 2011 (the "Air Code"). operations of private companies. The revised The prior Air Code of Ukraine existed for Air Code also introduced several important over 18 years and, after lengthy debates, it features and innovations that are outlined in was modernized based on the current inter- the overview below.

New Authorities and Powers

The Air Code provided for establishment of line companies must submit in relation to a new agency — the Expert Agency on Inves- aviation incidents or accidents that require tigation of Aviation Accidents and Incidents further review and analysis by the authori- (the "Investigation Agency"). This Agency ties. The Air Code envisaged creation of the is expected to be independent from the State Investigation Agency by January 1, 2012, al- Aviation Agency of Ukraine (the "SAA") and though it did not happen until now, and no deal exclusively with review and investiga- new rules were adopted as yet. It is also worth tion of various aviation accidents and inci- noting that until the Investigation Agency is dents. The independence of the Investigation established, the SAA would exercise the func- Agency is expected to guarantee the objec- tions and rights of the Agency. tive and unbiased review of cases; however, The other important news is that the Air Code it seems rather doubtful considering that the significantly expands the authority of the SAA Agency will be funded primarily from the and vests it with a variety of discretionary State Budget. powers. For instance, the SAA is authorized to The Investigation Agency together with the develop and approve the new Aviation Reg- SAA are scheduled to set up the system and ulations of Ukraine (the "ARU"). The ARU is criteria for mandatory notifications that air- supposed to be a complex document based on

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the international and European Union ("EU") seems to have an absolute discretion to de- standards of the aviation industry; however, fining grounds for irregular inspections. Un- it also should be in compliance with applica- less the ARU would set up certain limitations ble Ukrainian laws and regulations. From the to this provision, it may create the additional practical standpoint, this balance is often im- basis for unfair treatment of airline compa- possible to archive. nies and other aviation market players. The Air Code also contains an interesting On the positive side, the Air Code requires provision about the applicability of ARU to all that airport services operators ensure equal aviation market companies doing business in treatment of all airlines and other aviation Ukraine. It particularly states that the Head of related companies (i.e., technical mainte- the SAA may waive certain technical or pro- nance, ground handling, fuel supplies, etc.). cedural requirements of the ARU for a partic- It is expected that governmental authorities ular aviation company15,1 provided that such would review the market of aviation related waiver does not impact the aviation safety services and define some ground rules for so- and is made "in the interests of the society." called natural monopolies of airport services. While the detailed process for such a waiver These ground rules should ensure transpar- shall be set up by the ARU itself, such discre- ent and equal treatment of all airlines and tionary authority allowed to the Head of the other businesses that operate or are willing to SAA might be viewed as creating an unfair operate in a particular airport. On a related treatment for certain aviation market players. note, the airport operators should also estab- The SAA also has discretionary powers to lish special "airport committees" that would review compliance of existing and new Air allow representatives of airport management, Operator Certificates162with the ARU. In this airlines based in the airport, ground handling regard, the SAA can assign certain state- and other services companies to meet and owned or private companies that would have negotiate common terms and conditions of authority to perform various inspections, services provided in the airport. These basic checks, assessments or prepare expert re- requirements were long-awaited by the mar- ports necessary for obtaining or validating of ket players as they are staging the foundation the Air Operator Certificates. The Air Code for further development of the aviation ser- does not refer to any limitations of this au- vices in Ukraine on a competitive basis. thority of the SAA which may also lead to un- fair competition. Moreover, given the market practice, it is very likely that airline compa- nies would be required to cover the cost of services rendered by inspection companies assigned by the SAA. Foreign investors or companies doing business in Ukraine should be particularly careful in relations with such appointed companies and ensure proper vet- ting of these contracts in light of international anti-bribery compliance requirements. Further on, the Air Code provides discretion- ary powers to the SAA in matters of regular and irregular audits and inspections. The SAA

15 The Air Code applies to airlines, airports, ground handling companies and other companies that operate in the avia- tion services market. 16 The primary document that confirms the airline status of the company.

84 www.chamber.ua Prepared by: Logistics and Transportation

Tariffs and Route Permits

The Air Code establishes new ground rules "the need to ensure cost-effectiveness (prof- for air carriage tariffs and granting of route itability) on the existing routes." From these permits. The clear message is that the tariff provisions of the Air Code, it looks obvious that cannot constitute price dumping or be dis- the SAA would have the ultimate discretion to criminatory. On this basis, the SAA has the manage Route Permits on the ad-hoc basis, authority to cancel "too high tariffs if there is including their issuance, limitation or revoca- no adequate competition level or too low tar- tion. It also seems that this discretion would iffs in case they are, inter alia, lower than net apply to competing routes, e.g., flights to main costs of the carriage." In order to exercise this and secondary airports of the same designa- clause, the SAA can request that the airline tion point that could be limited or revoked for company provides the information necessary the benefit of ensuring the cost-effectiveness for adequate evaluation of its tariffs, includ- (profitability) on the main airport route. ing the information on the net costs. Failure One of the other important innovations of the to provide such information in time or in full Air Code is that it provides the possibility for may result in the tariff cancellation. While foreign airline companies to get the Ukrainian having good motives, this provision of the Air Route Permits for regular flights on interna- Code raises many concerns. The information tional or domestic routes not only on the basis about net costs of the tariff normally con- of the bilateral agreements as was true before, stitutes the commercial secret of the airline but also based on the reciprocity principle, i.e., company. Thus, when submitting this data to if Ukrainian airline companies enjoy the same the SAA the airline company may risk losing rights in countries where such foreign air- its commercially sensitive information as the line companies are registered. The Air Code Air Code does not set up any rules for ensur- also allows foreign airline companies to ob- ing the confidentiality of the commercial se- tain Ukrainian Route Permits for non-regular crets transferred to the SAA. flights, if no Ukrainian airline is willing to per- The SAA is also authorized to manage air- form such flights. These clauses significantly space and use it "based on the interests of ease the possibility of foreign airline compa- the national economy and safety." Given the nies to access Ukrainian domestic routes and broad definitions for this authorization, the obtain better permits for international routes. SAA would likely to have practical discretion The Air Code also provides a separate regula- in influencing airspace use which may result tory framework for issuance of Route Permits in unequal distribution of airspace permits for so-called socially important routes i.e., between different airline companies. While routes with low traffic, although important the detailed rules and procedures for issu- for the development of a city or region) (the 17 1 ance of Route Permits , approval of flight "Social Routes"). When applying for a Social schedules, etc. should be defined by the ARU, Route, the airline company should negotiate the Air Code provides that when deciding on with the SAA and fix certain service condi- the Route Permit application the SAA shall tions, i.e., route tariff, flights quantity, etc. In consider "the social importance for such air exchange, the SAA may grant to the airline carriage and need for development of the company the exclusive right to operate such transportation system." The SAA also has the Social Route for the term up to three (3) years. authority to decline the Route Permit applica- If no airline company applies for the Social tion or limit the issued Route Permit based on Route, the SAA can announce an open tender 17 Under Ukrainian law, each airline receives a special per- for Ukrainian and foreign airline companies. mit for operating on a particular domestic or international In such case, applicants can claim that the route.

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SAA provides certain compensations or ben- and the SAA is supposed to select the most efits for their operations on the Social Route reasonable compensation claim.

Compensations and Penalties

The Air Code also provides the extensive penalties for violations of the aviation safety list of new rules and procedures that govern rules, rules of conduct on-board of the air- compensations due to passengers in case of crafts and rules of the international flights a flight delay or cancellation. These compen- from UAH 85 (approx. USD 10) to UAH 8500 sations are based primarily on relevant EU (USD 1,000). In addition, a separate criminal standards, so a majority of airline companies offence was introduced to the Criminal Code are already used to these requirements on of Ukraine — performance of professional du- flights originating from EU cities. What is im- ties by aviation personnel under the influence portant, however, is that these requirements of alcohol, drug or other psychotropic or psy- are now applicable to all international and choactive substance. This crime is subject to domestic flights operated by Ukrainian and correctional (community) works for up to two foreign airlines. (2) years or sentencing up to three (3) years. The Air Code also sets out an extensive list On a related matter, after heated discussions, of penalties for various violations of its pro- the Air Code also explicitly intense that air- visions and requirements. Given the limited line companies shall be liable for verification scope of this publication, it is difficult to pro- of the passenger documents that are neces- vide an overview or analyze all such viola- sary for entering to the destination country. tions, but it should be noted that the Air Code In particular, the airline company shall decline provides economic sanctions which, depend- the carriage of a passenger who does not have ing on the violation, may vary from UAH 510 necessary documents. Failure to comply with (approx. USD 65) to UAH 136,000 (approx. USD this requirement may result in a penalty that 17,000). As a result of the implementation of ranges from UAH 8,500 to 17,000 (approx. the new Air Code the Administrative Offences USD 1,000–2,000) per passenger. Code of Ukraine was amended with increased

Practical Implications

The 2011 Air Code is a clear step forward in On the other hand, the Air Code vests the SAA the development of a regulatory framework with many discretionary powers and authori- for the aviation industry. It creates practical ties. While this approach appears to confirm ground rules for foreign airlines and aviation the general trend for hands-on management services companies to access Ukrainian avia- and control that the current government has tion market and even to operate on domes- taken in relation to several industries, the tic routes. The new Air Code’s other positive practical implications of SAA’s discretion- message is the review of monopolistic ar- ary authorities may have an adverse effect on rangements that currently exist in Ukrainian the business. The SAA’s manual control over airports or on certain air carriage routes. The route permits and tariffs can put additional passengers would also benefit from imple- regulatory pressure on airline companies and mentation of EU based compensation norms other unrestricted powers may cause unfair and procedures. treatment of aviation services providers.

86 www.chamber.ua Prepared by: Logistics and Transportation

Clearly, every airline or aviation services Obtaining of regulatory approvals and permits company should revise its policies and pro- was never easy in Ukraine. However, in the new cedures in line with requirements of the new legislative environment it might become even a Air Code and many companies apparently al- more challenging task. International and local ready did so. However, what is more impor- companies should also keep in mind require- tant is the further monitoring of the practical ments of Ukrainian and foreign anti-bribery implementations of certain Air Code provi- compliance requirements when dealing with sions that raise business concerns. governmental authorities or companies sug- gested or appointed by such authorities.

87 International Reach Local Expertise

FOR MORE INFORMATION, Chadbourne’s strong local presence in Ukraine since 1993, together with PLEASE CONTACT:

Jaroslawa Z. Johnson our international reputation and scope through our global network of ÚU3

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New York Q Washington Q Los Angeles Q Mexico City Q São Paulo Q London Q Moscow Q Warsaw Q Kyiv Q Almaty Q Istanbul Q Dubai Q Beijing Attorney Advertising 11-198 Prepared by: Media 14. MEDIA

Ukrainian Media Overview

Ukraine’s media sector experienced a rela- service is the eleventh language service to be tively stable year in 2011 with advertising added to the Euronews stable, joining Eng- revenues throughout the sector remaining lish, French, German, Spanish, Italian, Polish, below pre-2008 crisis levels but continu- Turkish, Persian, Russian and Arabic servic- ing to post moderate gains on 2010’s tenta- es. The channel’s domestic broadcast partner tive recovery. Meanwhile, a number of new is Ukraine’s national TV channel UT1, with international projects appeared on the local UT1 Deputy President Walid Arfouch proving horizon and one of the country’s most wide- instrumental in pushing through the partner- ly-respected weekly current affairs journals ship. A full Ukrainian editorial team was ap- changing hands. pointed in spring 2011 and relocated to the Eu- The most talked about media acquisition of ronews central offices in Lyon, France, where the past twelve months was the deal which they produce the Ukrainian language input saw American media figure Jed Sunden sell his for the 24hr Euro-centric video news chan- controlling stake in KP Media to Ukrainian ty- nel. The new Euronews service attracted some coon Petro Poroshenko for a reported USD 20 initial criticism over the apparent decision of million in a move which was hailed by Ukraine’s Ukrainian service editors to remove unflatter- free press campaigners as safeguarding a ing references to the Ukrainian government modicum of media ownership plurality in the from news reports dealing with the country’s country. KP Media’s flagship publication is Ko- EU integration talks, but on the whole the ar- rrespondent magazine, which since its launch rival of Euronews has been received as a sign in 2002 has earned an unrivalled reputation that the country is on the international media as Ukraine’s most editorially independent and map and being taken more and more seriously credible weekly news magazine. Initially fi- by major European media groups. It is note- nanced by the profits of Sunden’s original me- worthy that the partly EU-funded channel has dia venture — English-language weekly news- chosen to initiate a Ukrainian service prior to paper The Kyiv Post — Korrespondent was the launching similar initiatives in other EU can- last in a long list of titles which Sunden has didate regions such as the Balkans — one of been forced to close down or sell off over the precious few indications over the past twelve past three years due to the sharp decline in months that senior figures in Western Europe advertising sales revenues felt throughout the continue to take Ukraine’s Euro-integration Ukrainian media market since the onset of the ambitions seriously. 2008 global Credit Crunch. 2011’s most surprising Ukrainian media ar- The biggest media arrival of 2011 was un- rival came in September with the launch of doubtedly the launch of the new Euronews the world’s first Jewish-themed 24hr news Ukrainian language service, which was offi- channel, Jewish News One (JN1). Based out cially unveiled on 24 August (Ukrainian Inde- of Kyiv and with bureaus in Tel Aviv, Jeru- pendence Day). The new Ukrainian language salem and Brussels, this new global video news initiative is the brainchild of Ukrainian

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Jewish tycoons Igor Kolomoiskiy (also the via satellite to North and Central America, current majority shareholder at leading Europe, North Africa and the Middle East, and Ukrainian TV channel 1+1) and Vadim Rabi- is also available online in live view format. novich, both of whom have long track records The project is a first for Ukraine and has been for investing in cultural projects in support interpreted by media analysts as the latest in- of Ukraine’s Jewish community. The channel dication of the mounting international ambi- broadcasts in English and Russian languages tions of Ukraine’s Jewish powerbrokers.

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Office Market

Fundamentals

In Q3 2011, previously ubiquitous relocation tion for Q1-Q3 2011 down to ca. 80,000 sq m of occupiers from unclassified to competitive (-23 pp y-o-y). Meanwhile, depressed rents buildings is losing momentum while office leas- continue fuelling demand for modern office es driven by market entry remain rare. Demand premises with absorption for the three quar- is further daunted by weak economic growth ters outpacing projected development comple- and employment trends dragging absorp- tions for 2011 and pushing down vacancy rates.

New Supply, Net Absorption and Vacancy Rate

lhs — left hand scale rhs — right hand scale E — estimate Source: CBRE

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Demand

By the end of September, reported take-up alto building, which went to Swedbank. The totaled more than 100,000 sq m, a 14 per- rationale behind most relocations was either cent y-o-y improvement. This relatively consolidation with upgrade or expansion. high transaction volume was due to several In terms of industry sector breakdown, mass large deals — in excess of 2,000 sq m each — media & advertising companies came first with accounting for around 64 percent of total a 15 percent share of the total take-up thanks take-up. to one-off acquisition of newly delivered office Significant input was made by three notable building in Podil district of Kyiv. The demand owner acquisitions and large leasing trans- from finance services companies has been get- actions in the recently delivered Eleven and ting stronger as well and now accounts for 13 HPBC ST (Phase II) office schemes. Eleven percent of total transactions by the end of Sep- can also boast the largest 6,000 sq m deal with tember 2011. Also of note was higher activity on TNK-BP, an oil company. The second largest the part of wholesale & retail trade whose share lease transaction recorded in H1 2011 was in total take-up made up around 12 percent of for 4,400 sq m of space in a newly-built Ri- all transactions.

Take-up by Industry in Q1-Q3 2011

Source: CBRE Supply

By the end of September, with the new addi- In the first six months of 2011 developers tions of 2011 (ca. 35,300 sq m) the total com- have significantly stepped up their opera- petitive stock has reached 1.14 mln sq m. tions, prompting an upward revision to our By the end of 2011, we expect completion of previous forecast for future supply. We now some more premises (14,000 sq m). In aggre- expect 20 percent more space to be delivered gate, therefore, annual new supply in 2011 is in 2012 — i.e., 200,000 sq m, including only expected to hit an eight-year low, amounting key office schemes currently under con- to just under 60,000 sq m (-17 percent y-o-y). struction. Another 100,000 sq m of space is

92 www.chamber.ua Prepared by: Real Estate expected to hit the market in 2013. It is note- for that year are Class A premises. 2013, in worthy that new supply in 2012 is likely to contrast, will see mostly Class B premises, be the most high-quality in history since which are expected to have 60 percent share around 70 percent of deliveries scheduled of new additions.

Kyiv Annual Development Completions and Total Competitive Stock

E — estimate F — forecast Source: CBRE

Rents and Vacancy

The benchmark prime rent in core areas to that recorded nine months ago — i.e., $23/ demonstrated moderate growth in H1 2011, sq m/month. having increased from $32 to $35 sq m/month Because there was not enough new supply to com- (net of VAT and OPEX) in six months and re- pensate for the increased activity of occupiers, av- mained flat during Q3 2011. Therefore, the erage vacancy rate fell 4.5 pp from December 2010 growth rate has slowed after accelerating in to 12.7 percent by the end of September 2011. H2 2010. Due to still high vacancy in non- prime locations, average net effective rent for Rental rates and vacancy vary markedly secondary office premises is almost identical across submarkets.

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Kyiv Office Base Rental Range and Vacancy as of Q3 2011 (USD/sq m/month)*

Class A location Quality A Quality B Vacancy Prime $35–42 $25–35 10.0% Pechersk $35–42 $25–30 4.2% Podil $28–38 $23–25 7.5% Shevchenkivskyi — $22–30 10.4% Olimpijskyi $25–32 $23–27 16.1% Class B location Quality A Quality B Vacancy CBD fringe $20–25 $14–20 12.8% Class C location Quality A Quality B Vacancy Non-central area — $12–15 17.9%

* data was presented according to expanded CBD boundaries and new business centers classification introduced by CBRE in September 2011 Source: CBRE

Map of Office Submarkets in Kyiv

Source: CBRE Outlook

In 2012, market average vacancy will be ris- line is available for sale it will have a lesser ing fed by excess space in the newly delivered affect on the letting market, keeping rents class A properties. Significant new additions from falling. With Class B office vacancy rates to prime stock in 2012 will put downward in mid-20s, secondary rents are likely to re- pressure on rents. At the same time, since main unchanged well into 2012. certain part of the announced grade A pipe-

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Warehouse Market

Fundamentals

Towards year-end, conditions in the ware- the back of continued shortage of new supply house market recorded the third consecutive boosted further absorption of available space quarter of gradual improvement. Retail sec- over Q1–Q3 2011, markedly driving down va- tor growth encouraged several developers cancy rate to 11.5 percent. However, we an- to resume construction works on the previ- ticipate vacancy to stay at two-digit level by ously halted projects, allowing us to estimate year-end as delivery of new premises in Q4 new supply of warehouse premises in 2011 at 2011 is likely to exceed the volume of expect- 86,400 sq m. Increased activity of tenants on ed net absorption during late 2011.

New Supply, Net Absorption and Vacancy Rate: Past and Future

lhs — left hand scale rhs — right hand scale E — estimate Source: CBRE Demand

Slow recovery in demand for warehouse prem- (ca. 61 percent) of the take-up in Q1-Q3 2011. ises that began in 2010 was maintained in 2011. Transportation and Storage came 2nd with just The users continued to consolidate their op- under 31 percent of transacted space. These erations and also began to expand warehouse figures confirm the trend of the last 15 months, space. Their rising confidence is reflected in in which the relative activity of wholesale and the take-up figures for Q1-Q3 2011, which is retail sector (as measured by take-up num- 68 percent higher from a year ago. bers) has been steadily increasing, overcoming In terms of industry breakdown, wholesale and Transportation and Storage by December 2010 retail sector were responsible for the lion share and maintaining the lead by the end of Q3 2011.

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Take-up Structure by Industry in Q1–Q3 2011*

base — volume of transactions, sq m Source: CBRE Supply

By the end of September 2011, total professional warehouse came to the following: • total supply — 1,477,800 sq m (new supply — 47,500 sq m); • total speculative supply — in excess of 947,800 sq m (new supply — 15,500 sq m).

Kyiv Annual Development Completions and Total Speculative Stock (‘000 sq m)*

* — In Q3 2011, we reduced total competitive stock by 48,400 sq m due to three acquisitions for owner-occupation recorded in the first six months of 2011.

lhs — left hand scale rhs — right hand scale E — estimate Source: CBRE

The most anticipated completion of 2011 is under construction (including premises for Phase I of warehouse complex, developed by owner occupation) in Kyiv region with high Amtel-Properties — 37,000 sq m. Currently, delivery probability for Q4 2011–2012. there are ca. 212,600 sq m of warehouse space

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Rents and Vacancy

The absence of large completions in the market, pushing average vacancy down from greater Kyiv area over Q1–Q3 2011 made 20.5 percent in December 2010 to 11.5 percent it easier for demand to contribute towards in September 2011. gradual absorption of available space on the

Rental and Vacancy Rates

E — estimate Source: CBRE In terms of geographical breakdown, the ence high vacancy levels which make up ca.15 lowest occupancy rates are observed on the percent of the local stock there. The volume East (Left) bank, where 31 percent of existing of vacant premises in other directions is low stock along Moscow highway (M-01, E-95) is and does not have a major effect on average vacant (64 percent of all vacant premises on vacancy rate across the market. the market). In contrast, warehouse prem- Prime rents have remained mostly unchanged ises along Kharkiv highway (M-03, E-40) are over the last nine months — $5.5/sq m/month almost fully leased (vacancy rate is less than to $6.5/sq m/month (net of VAT and OPEX). 5 percent). Availability rate along Zhytomyr Asking rental rates in the most popular ware- highway (M-06, E-40), the most popular lo- house schemes in the vicinity of key road cation, — is 3 percent. Premises along Warsaw junctions showed slight growth in Q3 2011. highway (M-07, E-373) continue to experi- Outlook

Based on recent announcements of deve- based increase in demand. Future demand lopers, we anticipate ca. 100,000 sq m of new for warehouse premises will rely heavily premises to be delivered on the speculative on the performance of Ukrainian economy market in 2012 (30 percent less than 7-year and its trading partners, as well as growth average). This figure implies that demand is in consumer spending. Taking into account still limited despite an increase in tenants’ current market trends and economic perfor- activity over 2011. Nevertheless, the number mance in late 2011, average vacancy is likely of warehouse projects is large and the vol- to stay at two-digit level next year, thereby ume of new supply may increase dramati- keeping rental rates from major changes cally should developers see solid and broad- during 2012.

97 Uniting Leading Companies from over 50 Nations Across the Globe 16. TAXATION Intergovernmental Exchange of Tax Information Mechanism as a New Source of Additional Tax Revenues

The boom years of growth and rising com- have apparently precipitated the active reli- modity prices are over. The global financial ance of the Tax Office on this mechanism. and economic crisis continues adversely to The Tax Office is facing a hard task here. On affect the ability of the Ukrainian government the one hand, Ukraine gradually integrates to mobilize tax revenues as Ukrainian econo- into global economy in the light of irreversible my is one of those the most heavily hit by the globalization and the liberalization processes. crisis. At the same time, public expenditures This creates new challenges for Ukrainian continue their steep climb as Ukraine, in ad- businesses but also offers immense oppor- dition to financing its oversized and largely tunities, including tax planning opportunities. inefficient public sector coupled with aging Some of such tax planning techniques could population, is faced with the ever growing be safely called aggressive being aimed at tax cost of servicing its sovereign debt, thus, fur- avoidance if not tax evasion. ther widening its public finances deficit. This is not to mention certain practices of confus- This causes a major problem for Ukrainian ing public finances with private ends. tax authorities as their enforcement powers are constrained by national borders. Bank The quest for higher tax revenues to curb secrecy and other confidentiality regulations budget deficits is further hindered by a lim- in many jurisdictions also do not contrib- ited access of the Ukrainian government to ute, if not prevent, the proper functioning of foreign resources. Sovereign borrowings the mechanism of disclosure of relevant tax have become prohibitively expensive even for information. Tax havens, with their unfair the economies in a far better state of public tax practices, being heavily used by many finances than Ukraine. For various reasons, Ukrainian businesses with international international financial institutions have also ramifications for the tax minimization pur- halted their cooperation with Ukraine. poses, neither align with the Tax Office’s goal These severe challenges to public finances and efforts in preserving fiscal sustainabil- force the Ukrainian government to seek new ity. On the top of it, Ukraine lacks even basic sources of tax revenues to mitigate the nega- legislation on controlled foreign corporations tive impact of the global financial and eco- (CFC) and thin capitalization rules as well as nomic crisis on Ukrainian economy. exceptionally unsophisticated transfer pric- One of the mechanisms aimed at procuring ing rules, which even further restrict the Tax higher tax revenues recently identified and Office in countering artificial tax deferral and put into operation by the Tax Office is the profit stripping techniques. exchange of tax information procedure. Al- Despite these adverse factors, the exchange though the relevant pieces of legislation al- of fiscal information mechanism is likely to lowing such exchange have been in place for prove to be a rather potent and efficient tool some time already, the ailing tax revenues in raising the tax revenues by the Tax Office

98 www.chamber.ua Prepared by: Taxation through adjusted tax base of Ukrainian busi- In our discussion below we briefly comment nesses, with fiscal information procured from on the legal sources permitting the Ukrainian foreign governmental authorities serving as a tax authorities to engage into the intergov- ground for such adjustment. ernmental exchange of fiscal information.

Ukrainian Legislation

As an initial comment, by law, the Ukrainian ticular, in case the lowest level Tax Office is tax authorities may request tax information interested in obtaining information from the from the foreign governmental authorities only foreign state authorities it is required to file through the Department of the International the respective motion with the regional level Affairs of the State Tax Service of Ukraine. Tax Office. This procedure has been established by Pro- The discussed motion with the above infor- cedure No. 185 of the State Tax Administra- mation should be considered by the regional tion of Ukraine for the Exchange of Informa- level Tax Office in order to identify whether tion based on the Special Requests, dated on there are legal means to receive the request- June 18, 1997 (hereinafter — the “Procedure”), ed information in Ukraine. After the regional as amended and restated. Tax Office confirms that it is appropriate to The Procedure was adopted in order to estab- file the request, such regional Tax Office files lish the “uniform procedure for the exchange similar motion with the State Tax Service of of information” and to prevent any unauthor- Ukraine, the Department of the International ized or groundless requests to be sent to the Affairs. foreign state authorities by the Ukrainian lo- The State Tax Service of Ukraine, in turn, car- cal level tax offices. ries on similar internal investigation and con- The Procedure establishes the two level sys- firmation procedures before authorizing the tem of confirmation of the request. In par- request in question.

International Legislation, as Incorporated into Ukrainian Legislation

Generally, the exchange of information may 4. Agreements on Mutual Cooperation in the be conducted with the reliance on the mecha- Tax Matters (hereinafter the “Mutual Co- nisms established by the following bilateral or operation Agreements”); and multilateral instruments: 5. Tax Information Exchange Agreements 1. Bilateral Tax Conventions of Ukraine on (hereinafter the “TIEAs”). Income and Capital (hereinafter the “Tax Our analysis of the bilateral and multilateral Treaties”); instruments, to which Ukraine is the party, 2. European Convention on Mutual Admin- suggests that Ukrainian tax authorities have istrative Assistance in Tax Matters (here- all required instruments to request and pro- inafter the “European Convention in Tax vide tax information related to the Ukrainian Matters”); companies. 3. CIS Conventions on Mutual Administra- tive Assistance in Tax Matters (hereinaf- ter the “CIS Conventions in Tax Matters”);

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1. Tax Treaties In this connection, it may be reasonably stat- ed that the Tax Treaties are the most effective Ukraine has a wide network of the Tax Trea- legal instrument, which is widely used by the ties, which covers more than 60 jurisdictions. Ukrainian tax authorities in order to request Almost all Tax Treaties contain the Exchange information from the foreign tax authorities of Information provision, i.e., Article 26 in related to the administration of taxes by the most of the Tax Treaties. Ukrainian taxpayers. Article 26 provides effective mechanist for the exchange of information related to the 2. European Convention in Tax tax matters. Please note that Article 26 is Matters applicable not only to the exchange of in- formation related to the correct applicabil- Since 2009 Ukraine is subject of European ity of the provision of Tax Treaties, but also Convention in Tax Matters. Please note that to the administration of domestic taxes, the discussed European Convention in Tax which are not related to the Tax Treaties, Matters is effective in 17 countries and ad- i.e., Corporate Income Tax , VAT, Personal ditional 15 countries are in the process of im- Income Tax, etc. plementation of the discussed Convention. Moreover, the contracting state can not re- The main purpose of the European Conven- fuse to provide information solely because tion in Tax Matters is to establish cooperation it has no domestic tax interest in the infor- between governmental authorities of member mation (paragraph 4) or solely because it is states for a better operation of domestic tax held by a bank or other financial institution laws. Convention provides for different forms (paragraph 5). of administrative cooperation in the assess- At the same time, almost each Tax Treaty ment and collection of taxes, in particular provides trade and commercial secret protec- with the view to preventing tax evasion. tion, when the requested information should In particular, according to Article 4 of the not be provided. In particular, most of the Tax Convention “the Parties shall exchange any Treaties provides that: information, in particular as provided in this “In no case shall the provisions of paragraphs section that is foreseeably relevant to: 1 and 2 be construed so as to impose on a a. the assessment and collection of tax, and Contracting State the obligation: the recovery and enforcement of tax claims; … to supply information which would disclose b. the prosecution before an administrative any trade, business, industrial, commercial or authority or the initiation of prosecution professional secret or trade process, or infor- before a judicial body”. mation the disclosure of which would be con- trary to public policy (ordre public).” As you may appreciate, the scope of the cited article is wide. According to the Explanatory In other words, the Contracting State may Report to the Convention issued by OECD, the not be imposed to supply information, which standard of “foreseeable relevance” is intend- would disclose trade or commercial secret of ed to provide for exchange of information in its taxpayers. tax matters to the widest possible extent. Moreover, the OECD Commentary to the Moreover, the European Convention in Tax Model Tax Convention provides that “Con- Matters provides the following five main tracting States are not at liberty to engage in methods of exchanging information: “fishing expeditions” or to request informa- tion that is unlikely to be relevant to the tax • exchange on request (Article 5); affairs of a given taxpayer”. • automatic exchange (Article 6);

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• spontaneous exchange (Article 7); In particular, the Agreement on Mutual Co- • simultaneous tax audits (Article 8); operation and Exchange of Information in the • tax audits abroad (Article 9). Prevention of Tax Evasion, Unlawful Financial As you may appreciate, the European Conven- Operations and other Economic Criminal Of- tion in Tax Matters is more detailed document fences with Slovak Republic (2001) provides than the Tax Treaties, which provides for all the possibility of the exchange of information possible forms of administrative cooperation related to the tax evasion and unlawful fi- between contracting states in the assessment nancial operations. The provided information and collection of taxes. should only be used for the purposes of the tax audits and not for the purposes of the criminal case investigations. The exchange of informa- 3. CIS Convention in Tax tion should be carried out between State Tax Matters Service of Ukraine and Ministry of Internal Af- fairs of Slovak Republic. In addition to the European Convention in Tax Please also note that in practice, the Slovak Matters, Ukraine is a party to CIS Convention state authorities are proactive in provision of in Tax Matters, which is effective in 10 CIS tax information at the requests of Ukrainian countries. tax authorities. Similarly to the European Convention in At the same time, according to the Agreement Tax Matters CIS Convention establishes co- on Technical Assistance in the Administration operation between governmental authori- of Taxes with Hungary (2009), the competent ties of member states for a better assess- authorities may only exchange information of ment and collection of taxes. Convention the general nature, i.e., regarding the tax sys- expressly provides for the mechanisms of tem, administration of taxes etc. Information exchange of information and scope of such regarding the specific transactions or with re- information. spect to the exact taxpayer is out of the scope of the discussed Agreement. In particular, according to Article 3 of the Con- vention the contracting states may establish cooperation in the following forms: 5. TIEAs • exchange of general information regarding the tax system and administration of taxes; Ukraine is not subject to TIEAs. We may not rule our that Ukraine may consider implementing • exchange of specific information regarding this approach which, on many accounts, has the particular taxpayer, including informa- proven to be rather efficient in procuring fis- tion related to the violations of tax legislation. cal information especially in relationship with As a result, the Ukrainian tax authorities may low-tax jurisdictions. effectively use the CIS Convention in Tax Mat- In a summary, collecting tax revenue, espe- ters for the purposes of exchange of informa- cially during economic crises, has proven to be tion related to the Ukrainian taxpayers. difficult. The Ukrainian government is fighting a losing battle in collecting sufficient tax rev- 4. Mutual Cooperation enues to cover its public expenditures. Having generally become much more aggressive in Agreements administering and collecting taxes as well as in interpreting tax laws, the government is widely Ukraine is subject to Mutual Cooperation expected to embark on trying and testing other Agreements with more than 25 jurisdictions. instruments aimed at raising tax revenues, the Most of the discussed agreements provide the mechanism of exchange of fiscal information exchange of information provision. being just one of them.

101 Uniting Leading Companies from over 50 Nations Across the Globe Taxation of Transactions with Non-resident Legal Entities: CPT and VAT Aspects

Dr. Roman Zharko, PhD Senior Tax Consultant, Baker Tilly Ukraine

2011 is a landmark year for the Ukrainian tax One of the most significant concepts which system. Starting from the January 1st (and from are new for the domestic law and reference April 1st for corporate profits tax), the brand to which is found in many provisions relat- new Tax Code entered into force bringing many ing to cross-border operations is the concept dramatic changes in the tax rules. Many aspects of beneficial ownership. Despite the Tax Code of the tax law were changed not from mere operates with this term, it does not provide for technical standpoint, but amendments often its clear definition. The recent developments impacted the underlying principles of tax ac- by OECD regarding giving more precise defi- counting. Inevitably, the rules for taxing cross- nition of who is a beneficial owner of the par- border transactions were altered as well. ticular proceedings are unlikely to have any The aim of this article is to show main points serious impact on the Ukrainian treatment which require particular attention when of this term as Ukraine is not a member of dealing cross-border considering new tax OECD and its commentaries are not binding rules from the Corporate Profits Tax (CPT) for Ukrainian authorities. and the Value-Added Tax (VAT) standpoint. The Tax Code restricts the right to apply dou- Treatment of the permanent establishments ble-tax treaty (DTT) provisions only to cases is also concerned. where the non-resident receiving income is a Corporate Profits Tax beneficiary of that income. Otherwise, the tax authorities would challenge applicability of From the CPT standpoint there are several DTT benefits. areas of concern when dealing with tax treat- ment of operations with non-residents. These The Tax Code says that beneficial owner of the are as follows: income is the entity which is entitled for this. However, even if the entity has a right for the • Deduction for tax purposes of expenses of income, it cannot be recognized as a benefi- Ukrainian companies incurred due to op- cial owner if this entity is an agent or nominee erations with non-residents or intermediary regarding the income. Such a • Taxation of outbound payments by with- broad definition put many cross-border op- holding tax (WHT), and erations under risk, as beneficial ownership for the income is one of the two requirements • Use of benefits of double tax treaties provisions which are to be met in order to apply the rel- Also the due regard should be given to local evant double tax treaty provisions rightfully. treatment of concept of permanent estab- Thus, the parties should be ready to defend lishment (PE), as this is of significant impor- the lawfulness of use of treaty benefits as the tance both for residents and non-residents of tax authorities pay considerable attention to Ukraine. cross-border transactions and use of DTTs.

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This is of particular importance in case of use Deductibility of royalties, consulting, market- of financing companies, multi-tier holding ing and advertisement services is limited to 4 structures, etc. where the task of defining of percent of paying company’s revenues (with- the beneficiary may not be straightforward. out VAT) for the previous year. Thus, newly Continuing our analysis with deductibility formed companies would not be entitled to of expenses for the CPT purposes it must be less their taxable income for such expenses noted that expenses in order to be deductible at all as those companies would not normally must comply with the following general re- have the base for calculation of the threshold. quirements: Engineering services are allowed for deduction • Relate with business activities of the taxpayer; at 5 percent of the custom value of the relevant imported goods. However, importing goods is • Be properly evidenced by primary documents; not a necessary condition for engineering ser- • Comply with transfer pricing rules (20 per- vices to be purchased. And if the services do cent safe harbor is allowed). not relate to the imported goods, the respective expenses would not be deducted at full. As to expenses incurred due to operations with non-residents, the Tax Code provides for fur- Also the Tax Code provides for other limita- ther restrictions. Thus, the law preserves pro- tions of deductibility of the mentioned above vision limiting deductible amounts of expenses expenses: incurred due to transactions with offshore • The recipient of the proceeds should be non-residents to 85 percent of their original their beneficial owner value. Such non-residents are the entities with their residence in the countries defined as off- • The recipient should not be a non-resident shores for Ukrainian tax purposes. The list of with offshore status offshore countries has been approved by the Furthermore, royalties are subject to two ad- Government of Ukraine and includes 36 coun- ditional restrictions: tries, where amongst others such countries as • The object of royalties should not be firstly Isle of Man, Monaco, British Virgin Islands, etc. registered in Ukraine Payments to other non-residents, i.e. not hav- • The royalties must be taxable in the country ing the offshore status are generally deduct- of the recipient. ible provided they comply with general rules of deductibility listed above. However, the Tax The above requirements aim at restriction Code provides for upper limits as to amounts of improper use of treaties’ benefits and tax allowed to be deducted for certain expenses. avoidance through artificial business struc- These “restricted” expenses are follows: tures without any real business reason except for minimizing of tax burden. However, the • Royalties downside is that ambiguously worded provi- • Consulting, marketing and advertisement sions of the Code may put under risk a num- services ber of bona fide taxpayers. • Engineering services

Withholding tax

The main provisions relating to WHT remain in tax should be remitted to the State prior or on the the Tax Code as they were in the former legisla- date of the relevant payment. Also the Tax Code tion. Specifically, the object to tax is primarily pas- denies gross-up provisions and preserves the re- sive incomes, the main rate is 15 percent, and the quirement of availability of residence certificate

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What is changed, that is the current law re- and tax authorities as to lawfulness of treaty quires that the recipient of the income should provisions application where the latter does not be its beneficiary in order the DTT to apply. With provide for the beneficial ownership require- this regard we would add to the matters already ment. In conjunction with this it is need to say described above that vague law provisions will that under the Ukrainian legislation interna- most likely trigger disputes between business tional agreements prevail over domestic law.

Value-Added Tax

Amendments in rules of taxation by VAT are of customer. Those are as follows (please note less significant than those relating to CPT. that the list provided is not comprehensive): As it had been set up by the former VAT law, • Provision of intellectual properties rights, export transactions are been taxed at zero including those under license agreements; rate. However, the Tax Code exempted from VAT export of grains and technical crops until • Advertisement services; 2014. This deprives traders from claiming in- • Consulting, engineering, legal, accounting, put VAT from the State. audit, actuarial services, as well as servic- Import of goods and services is taxable un- es for development, supply and testing of der the standard rate of 20 percent through computer software, other IT services; reverse-charge mechanism. • Telecommunication services; When dealing cross-border, the matter of • Agency services; particular relevance is determination of place • Transport and auxiliary services. of supply of various services. As a general rule, the Code stipulates that place of sup- The VAT base for imported goods is been de- ply for services would be a place of supplier’s termined at the contractual value but not less registration. However, the law provides for a that customs value. For imported services the limited and exclusive list of services whose rule is that the VAT base would the contrac- place of supply would be place of registration tual value of the services.

Permanent establishment

The concept of PE presented in the Tax Code to be created. The latter arises due to provi- has changed and became more specific. The sion of services (including consultancy, but new definition of PE distinguishes such types excluding provision of employees) in course of PE as follows: of one project carried on in Ukraine through • Fixed place PE employees or other personnel hired for such purposes. Such a definition is rather vague • Installation PE and leaves a space to different treatment as to • Agency PE what is “in Ukraine”, will the separate project be treated as a certain task within one con- • Service PE tract, or all the tasks in the contract will be Installation PE should be recognized as such treated as one project etc. However, there are if the installation project takes more than no clear further provisions as to determina- 6 months. The same duration within any tion of Service PE which might lead to poten- 12-month period is enough for service PE tial disputes with tax authorities.

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As to agency PE recently there were amend- Summarizing all the above below we provide a ments in the Tax Code which made this defi- short list of issues to be considered when deal- nition more strict and now this kind of PE in- ing cross-border in order to reduce tax risks: cludes only dependent agents. • Applicability of the double-tax treaties Permanent establishment is deemed to be a (DTT) provisions; separate taxpayer and liable to tax its income • Restricted deduction for certain expenses by 23 percent (21 percent in 2012) of the Cor- porate Income Tax. • Place of supply for services and rules for determination of the VAT base Creation of PE might have far-reaching consequences, as incomes of non-resident • Whether export of specific goods is VAT-able company, attributable to such a PE would • Risk of creation of permanent establishment be taxable by Ukrainian CPT. With regard to The first year of playing new rules proved VAT, creation of PE will put under taxation that the Tax Code needs further develop- by the Ukrainian tax services, whose place ments. Relating to areas discussed in this of supply otherwise would be out of customs article the amendments need to be done to territory of Ukraine. the beneficial ownership concept in order to Also, it worth to mention that failure to regis- bring there some certainty. The same relates ter PE as a taxpayer prior to starting activities to definition of service PE, as vague wording in Ukraine would trigger treatment of pro- of the law leaves large room for tax authori- ceedings received before registration as hid- ties to interpret transactions and their results den from taxation. Therefore, risk of PE crea- from the fiscal standpoint. tion needs serious considerations.

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Prepared by: Taxation Ukraine 2013: Transfer Pricing

Ukrainian business will remember 2011 as The year 2013 could be one of new transfer the year of the new (and first-ever) Tax Code pricing rules in Ukraine, as the relevant pro- of Ukraine. The Code established a number of visions of the Tax Code are scheduled to take controversial rules, forcing taxpayers to change effect then. some of their long-established transactions and Anticipating these changes, we looked into practices and created a lot of turmoil for many. the new transfer pricing legislation and com- The period of change may not be over, how- pared it with effective law. We aimed to iden- ever, as some of the Tax Code’s provisions will tify the major changes in the regulations and take effect at later dates. foresee their impact on businesses. Why transfer pricing?

Transfer pricing (TP) primarily refers to the that require multinational organizations to pricing of goods and services in intra-group perform intra-group transactions at arm’s transactions. length prices. From a tax perspective, TP is particularly im- The Ernst & Young 2010 Global Transfer Pric- portant in cross-border transactions, given ing Survey (2010 Survey), which summarizes the differences in income tax rates among transfer pricing practices and audit experi- countries around the world. Using transfer ences across 25 countries, shows that in de- prices can allow multinational organizations veloped nations transfer pricing is considered to bring down their overall tax burden by to be a leading tax issue. Because it has impli- keeping low margins in high-tax jurisdictions cations for each and every business process, and shifting profits to low-tax countries. transfer pricing creates significant challenges To combat these practices, many developed for taxpayers and attracts more and more at- countries have introduced TP regulations tention from tax authorities. The 2010 Survey

According to the 2010 Survey, today’s transfer pricing is characterized by the following trends.

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evidenced that taxpayers find themselves in bers, continues to update its transfer pricing the challenging position of documenting and guidelines. defending their transfer pricing. On balance, companies are facing conditions that Meanwhile, the Organization for Economic dictate that adopting thorough transfer pricing Cooperation and Development (OECD), in de- policies and practices be at the top of their tax fining the transfer pricing framework for the agendas. [Graph 1: “Most important tax issues vast majority of its developed country mem- for tax directors” — page 7 of the 2010 Survey] Tax authority staffing

Tax authorities are taking steps to develop tion of a Transfer Pricing Practice and the es- their approaches to managing transfer pric- tablishment of a Transfer Pricing Council to ing reviews. coordinate transfer pricing reviews. For example, in the United States, the Internal In the United Kingdom, Her Majesty’s Rev- Revenue Service (IRS) has significantly in- enue and Customs (HMRC) has effected simi- creased its number of transfer pricing econo- lar transfer pricing developments by issuing mists, with the goal of maintaining the highest Guidelines for the Conduct of Transfer Pricing number of them in its history. As part of its Enquiries. The Guidelines mandate the crea- transfer pricing focus, the IRS announced a tion of a specialized Transfer Pricing Group number of other changes, such as the crea- and a transfer pricing review board. Tightening disclosure requirements

Along with increased transfer pricing staffing, In the United States, the IRS has also increased tax authorities in developed countries are intro- penalties for failure to accurately file related ducing new transfer pricing disclosure require- party transactions. The IRS is also developing ments. These requirements aim at increasing protocols for conducting joint transfer pric- the transparency of taxpayers’ intercompany ing audits with its treaty partners. transactions and their transfer pricing risks.

An increasing risk of challenges

The 2010 Survey shows that the number of ally. [Graph 2: “Incidence of transfer pricing transfer pricing reviews has increased glob- reviews”].

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The risk of a challenge by the tax authorities audit review, compared with a 1 in 25 chance continues to increase. According to survey in 2005. [Graph 3: “Percentage of adjustments results, there is now a 1 in 5 chance of suf- resulting in penalties”]. fering a material penalty as a result of a tax

Expansion of transfer pricing scope on emerging markets

As practice shows, the scope of transfer pric- new transfer pricing law contains a number ing is expanding not only in developed coun- of provisions similar to the OECD ones. This tries but in many emerging markets as well. means that Russia will start to exist in a new Recent transfer pricing reform introduced in transfer pricing environment, moving in the Russia confirms this trend. direction of the worldwide transfer pricing In 2011 Russia adopted new transfer pricing practice discussed above. legislation, which is to take force in 2012. The

Ukraine on the map of transfer pricing expansion

In Ukraine, TP rules have been underdeveloped for many years.

A little bit of history

For many years now, the Ukrainian TP rules ogy and guidance for practically implement- have been limited to one paragraph, para- ing them. As a result, TP regulations have not graph1.20 to be precise, in the Law of Ukraine yet functioned in full force in Ukraine. On Taxation of Enterprises’ Profit. The word- In practice, the Ukrainian tax authorities usu- ing of this paragraph was upgraded in 2002 ally challenge transactions in which sale prices and has not changed much since then. are below the cost of goods (services). In these These effective provisions on TP contain some cases, the authorities often do not even ques- basic concepts; however, they lack methodol- tion the arm’s length level of the contract price,

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but rather dispute the business nature of the ing the invalidity of the relevant agreements transactions (as they arguably are not aimed and reversing their tax implications. at generating profit). In addition, the tax au- The tax authorities tend to avoid TP reas- thorities sometimes initiate tax reassessments sessments as such (i.e. when the reassess- when taxpayers sell similar (identical) goods ments are based solely on the argument that (services) to customers at prices that differ the contract prices are not at the arm’s length significantly. Purchases of goods (services) can level). The reason is that the authorities bear also be challenged if the purchase prices differ. the burden of proof in these disputes and are As a separate area, the tax authorities some- not well-equipped to build strong cases. They times view manipulations with prices as evi- lack resources and a methodology for search- dence of the absence of business substance. ing out and analyzing comparables. This gives the authorities a basis for claim-

What’s new in the new TP rules?

In the Tax Code, the TP rules are squeezed to- 2) Covered transactions: Unlike the ef- gether into Article 39. fective law, Article 39 contains a list of Similarly to the existing legislation, under the transactions that are subject to arm’s new TP rules the contract price is presumed length price regulations. This list is non- to be at arm’s length unless proved otherwise. exhaustive and refers to other provisions To a great extent, the scope of transactions of the Tax Code. subject to TP rules remains unchanged under Similarly to the existing regulations, the the new rules. The burden of proof in TP dis- new transfer pricing rules will apply not putes still lies with the tax authorities. only to related party transactions and At the same time, the Tax Code introduces barter, but also to transactions with tax- significant changes to the TP rules. The major payers that do not pay corporate profit ones are: tax under the general rate (e.g. non-res- idents). At the same time, transactions 1) Methods: Article 39 of the Tax Code con- with individuals who are not entrepre- tains a list of five methods for determin- neurs are specifically excluded from the ing the arm’s length price and a short covered transaction. This is a positive description of each: comparable uncon- change compared to today’s rules. It will trolled price, resale price, cost plus, profit affect, in particular, businesses’ granting split and transactional net margin. The of discounts, the giving away of promo- comparable uncontrolled price method is tional gifts and other transactions with described in the greatest detail (the de- individual end customers. scription is similar to that in the existing legislation). Although all the methods are 3) Sources of information: The Tax Code put in a certain order, the Tax Code does provides for an open list of the official not mention that they have to be applied information sources to be used when successively. determining the arm’s length price. This list includes inter alia the state authori- In the effective TP provisions, only the ties’ statistical data, commodity or stock comparable uncontrolled price method is exchange quotations and reference data expressly mentioned and described, while in special publications. The Tax Code re- certain other methods are incorporated quires that only data from official sources by way of reference to the statutory ac- be used. However, it does not specify how counting standards and national stand- the official status of information sources ards for property evaluation. should be confirmed and/or obtained.

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The effective legislation does not contain vance TP agreements with the tax author- any requirements as to the sources of in- ities. The provisions on these agreements formation that can be used for TP purposes. are very limited and thus require further development in relevant regulations. 4) Safe harbor: The new TP rules allow for a 20 percent safe harbor. Tax reassess- 7) Arm’s length price of imported goods: The ments are not permitted if the contract new TP regulations provide that the arm’s price deviates from the arm’s length price length price for imported goods may not by less than 20 percent. be lower than their customs value. Lit- Historically, this safe harbor has applied erally, this means that in all transactions for VAT purposes. The Tax Code, however, with goods that were historically import- has changed that and introduced an al- ed to the customs territory of Ukraine, the lowable 20 percent deviation for corpo- arm’s length price may not be lower than rate profit tax purposes (while cancelling the customs value. This provision does not it for VAT). allow for any flexibility for promotional discounts, reduction of price for damaged 5) Procedure for TP-related tax reassess- or slow moving goods, etc. We expect that ments: Under the Tax Code, the tax author- this rule could have an adverse impact on ities need to bring a case to court only if the taxpayers engaged in trade in imported taxpayer appeals against the tax reassess- goods. This impact would be aggravated in ment that was raised under the TP rules. situations when the customs authorities This is in contrast to the effective legisla- reassess the customs value of imported tion, which does not provide any rules for goods to a level significantly higher than a procedure for these reassessments. In- the contract price. stead, reference is now made to the tax re- assessment procedure under the so-called As compared to the more developed TP leg- indirect method, despite that these meth- islation of other countries, the new Ukrainian ods have been abolished by the Tax Code rules have no TP documentation requirement in 2011. Therefore, until 2013 there is ar- for taxpayers. At the same time, the new rules, guably no procedure for TP reassessment. like the effective law, allow the tax authorities Taxpayers might use this fact as a formal to request from the taxpayers support and argument in TP disputes. explanation for the prices they use, and tax- payers should be able to provide it. There are, 6) Advance TP agreements: Under the Tax however, no requirements about what docu- Code, big taxpayers may enter into ad- ments can be used for these purposes.

Will it work?

Although representing a step forward in • The Ukrainian tax authorities do not pos- comparison to the effective regulations, the sess appropriate knowledge and resources new TP rules that the Tax Code establishes to be able to control compliance with the TP are still far from the world’s best practices. A rules, and major concern is that the new TP rules will • There is no detailed methodology for ap- not function and that, despite the changes in plying various methods for determining the the law, TP will remain an underdeveloped arm’s length price. area of taxation in Ukraine. Both elements are crucial for a workable TP sys- The following important elements are still tem and they could become an issue in Ukraine. missing from the Ukrainian TP system:

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The Ukrainian tax authorities must invest a tory or practice of applying these methods. lot of effort and money in building up their TP Additional regulations are thus required to ex- expertise and resources. The TP rules may be plain the mechanics of each method. promising in terms of tax collection, but there The year 2013 could become the year of TP is a long way to go before the tax authorities in Ukraine. For this to happen, however, addi- can apply the TP rules and transform them tional TP regulations must be developed and into tax assessments. implemented and the tax authorities must Another element missing in Ukraine so far is a make a huge investment in building up their detailed methodology to be used in TP analysis. TP expertise. Taxpayers, for their part, must The Tax Code contains a very general descrip- pay more attention to TP matters and adjust tion of the methods available for determining their transactions and pricing approaches to the arm’s length price. These limited rules are the new tax rules and practice. insufficient in Ukraine, where there is no his-

112 www.chamber.ua Prepared by: Taxation Ukrainian Tax Authorities are Ready to Challenge Double Tax Treaty Benefits

Mr. Oleg Chayka Ms. Yuliya Nogovitsyna KPMG

The Ukrainian withholding tax is an important behalf of other persons. For instance, Cyp- consideration for foreign persons investing riot companies that receive loans or licenses in or transacting with Ukrainian businesses. to use trademarks, and then on-lend these Historically, dividends, interest, royalties and funds or sublicense trademarks (as the case certain other payments to foreign persons may be) to Ukrainian companies may poten- have been subject to a 15 percent Ukrainian tially be viewed as intermediaries that are not withholding tax. The tax has been withheld the beneficial owners of Ukrainian-sourced from payments to foreign persons and re- interest or royalties. mitted to the budget. An exception was if it In practice, application of the beneficial was mitigated or eliminated under double tax ownership concept gets complicated. There treaties which Ukraine was party to. is neither a Ukrainian nor internationally However, the Tax Code that took effect this recognized definition of beneficial owner- year has complicated the rules for claiming ship when it comes to fiscal dealings. But tax benefits under double tax treaties. And there are numerous sources that help inter- this, understandably, can and has already pret the fiscal meaning of beneficial owner- been affecting businesses. To enjoy double ship, including foreign court rulings as well tax treaty benefits, an eligible foreign entity as papers and commentaries from interna- will now need to meet two key requirements. tional organizations. The foreign entity needs to be both a tax resi- The Ukrainian tax authorities are not expe- dent in a jurisdiction with which Ukraine has rienced in dealing with this fact-driven tax a double tax treaty and a beneficial owner of concept. In the absence of a legislated defi- the Ukrainian-sourced income. nition and tax jurisprudence on beneficial It is easy for most foreign persons to meet ownership, Ukrainian tax authorities inevita- the first requirement by providing foreign bly tend to take a fiscal approach and put the tax residency certificates. But it is much more onus of proof on the Ukrainian taxpayers and onerous for foreign persons to meet the sec- their foreign counterparts. ond and to demonstrate beneficiate owner- The Ukrainian tax authorities have hinted ship of Ukrainian-sourced income. that the intellectual property sublicensing In common legal terminology, beneficial own- structures would take the first hit as they are ership means de facto possession and/or easily identifiable and challengeable. The in- benefits of ownership of a property even if termediary financing and investment holding structures would likely follow the trend. the de jure title to this property is formally in the name of another person. This implies that The Ukrainian tax authorities have recently agents, nominees, trustees and certain other stated that they would apply the beneficial intermediaries cannot be beneficial owners ownership test even if a double tax treaty does as they do not economically and otherwise not refer to the beneficial ownership status of benefit from assets that they hold for and on the foreign income recipient. They have also

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indicated readiness to challenge exemptions Presenting documentary evidence may not from withholding tax available under the So- help as the tax authorities refused to provide viet Union-Cyprus double tax treaty that is even an indicative list of documents proving honored by Ukraine and that does not provide the beneficial ownership test. In the absence for the beneficial ownership requirement. of such a list, there would often be a debate as This position of the Ukrainian tax authorities to whether the presented evidence and docu- is arguable and there are reasonable doubts ments are sufficient. With respect to the for- that it would be sustainable in a court of law. eign income recipient, the latter may find it dif- ficult to credit or deduct the overpaid Ukrainian Introduction of the beneficial ownership re- taxes in the jurisdiction of tax residence. As a quirement in the Tax Code will have a major result, the overpaid Ukrainian withholding tax impact on payers of dividends, interest, roy- can become an additional cost of investing in alties, and, potentially, certain other payments or doing business with Ukrainian counterparts. to foreign entities. The second option inevitably puts the Ukrain- Being tax agents responsible for withhold- ian taxpayer at risk of being assessed to pay ing and remitting tax to the budget, Ukrainian the 15 percent withholding tax and a tax pen- payers will face an uneasy choice. They will alty varying from 25 percent to 75 percent of have to deduct the 15 percent withholding tax the undeducted tax. The tax arrears interest and leave it up to the foreign income recipi- can also be charged. As a result, the Ukrain- ent to deal with the refund of overpaid tax, or ian taxpayer can be held liable for taxes of the apply the reduced treaty rates (exemptions) foreign income recipient, and this tax expo- and then face a tax dispute with Ukraine’s tax sure can be significant. authorities on adequacy of this tax position. To sum up, prospective foreign investors will The first option would inevitably aggravate have to pay more consideration to the ben- business relations with foreign counterparts eficial ownership requirement and substance or shareholders, or invoke a gross-up clause when structuring their investments in and that would boomerang back to the Ukrainian transactions with Ukrainian businesses. The payer. This option does not usually work for existing financing, sublicensing and invest- intra-group payments. ment holding structures may need to be re- Theoretically, a foreign income recipient can visited in light of recent tax developments claim a refund of the excessively withheld tax. in Ukraine. Ukrainian taxpayers should ini- In practice, the tax refund procedure is over- tiate and lead such discussions as it is often complicated and Ukrainian tax authorities are much easier to restructure the existing busi- consistently failing to refund taxes on a timely ness model, ensure more substance abroad or basis. And now they can legitimately delay or even collect evidence of beneficial ownership even deny a tax refund on the basis that there in advance rather than to litigate this fact- is no adequate proof of beneficial ownership driven tax issue in Ukrainian courts. Your tax of Ukrainian-sourced income. advisors can assist in addressing this issue.

Mr. Oleg Chayka is an M&A Tax Director at the Kyiv offices of KPMG. He is also a co-chair of the Tax Committee at the American Chamber of Commerce in Ukraine. Ms. Yuliya Nogovitsyna is Senior Tax Manager, the Head of International Corporate Tax Group at the Kyiv offices of KPMG.

This article was initially published in International Tax Review on October 1st 2011, and can be accessed at: www.internationaltaxreview.com

114 www.chamber.ua Travel and Tourism 17. TRAVEL AND TOURISM Travel and Tourism Sector Overview

2011–2012 Partnership for Successfully Competing in the Global Economy Report

In 2010 Ukraine experienced increases in internal tourist flow and in incoming tourism. In 2010 Ukraine was visited by 21.1 million foreign tourists: 2 percent or 381.2 thousand more than in 2009.

Table 1. Rating of 10 major countries for incoming tourism in 2010.

Persons Share, % 2010/2009 1 Russia 7 881 321 37 + 13% 2 Moldova 4 057 678 19 - 6% 3 Belarus 3 056 157 14 + 2% 4 Poland 2 085 245 10 - 18% 5 Hungary 941 240 5 + 16% 6 Romania 909 553 4 - 15% 8 Slovakia 609 279 3 + 13% 7 Germany 225 356 1 + 6% 9 USA 122 955 0,6 + 2% 10 Uzbekistan 104 719 0,4 + 9% Total of 10 countries 19 993 503 94

Source: State Service of Tourism and Resorts of Ukraine The outgoing tourist flow of 2010 amounted to 17.2 million persons, which was 12 percent or 1.8 million persons more than in 2009.

Table 2. Rating of 10 major countries for outgoing tourism in 2010:

Persons Share, % 2010/2009 1 Russia 5 233 972 30 + 5% 2 Poland 3 999 602 23 + 35% 3 Moldova 1 889 724 11 - 5% 4 Hungary 1 789 308 10 + 12% 5 Belarus 1 135 094 7 + 9% 6 Romania 503 195 3 - 8% 7 Turkey 459 061 3 + 4% 8 Slovakia 383 961 2 + 2% 9 Germany 383 325 2 in 2 times 10 Egypt 328 623 2 + 39% Total of 10 countries 16 105 865 93 Source: State Service of Tourism and Resorts of Ukraine

Thus, during the first six months of 2010, en- six months of the previous year. tities in the tourism sector provided services As estimated by representatives of the State in the amount of 3.4 bln UAH, which is 21 per- Service of Tourism and Resorts of Ukraine, cent more than they provided in the same pe- the market for tourist services in the country riod of the previous year. They provided rev- has today seen a recovery from the fall that enues to the state budget of 100.5 mln UAH, came after the world economic crisis. which is 17 percent more than during the first

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Nevertheless, there are certain problems in opment of the Tourism Industry in Ukraine to Ukraine that pose a significant deterrent to Ensure Preparation for the EURO 2012 Football economic growth in the tourist sphere. The Championship,” which is meant to remedy the lack of regular and substantial funding pre- situation in the sector, has yet to be adopted. vents Ukraine from achieving competitive Further development of the travel and tourism positions in the world tourist market. Sector sector and the enhancing of its competitiveness development is financed both by private in- depend on reforming its legal and regulatory en- vestors and by state allocations. vironment to create a business climate that is at- State tourism sector development programs tractive for investment. In addition, several more envision that the government will provide only steps are critical for growth in Ukrainian tourism: 20 percent of the needed investment; the rest is • Improving the country’s infrastructure; expected to come from private investors. How- ever, private businesses do not seem to be eager • Ensuring that the level of tourist services to invest in the Ukrainian tourism sector. There in Ukraine corresponds to international is widespread agreement among experts that a standards; lack of political stability and poor or unenforced • Developing new or enhanced diversified legislation, especially in the areas of taxation, tourism products and destinations; land, construction, customs, and permit issuance • Cultivating a skilled, educated, and moti- are the key factors restraining private investors vated workforce with knowledge of English from investing. Yet many investors recognize the and other widely spoken languages; potential of Ukrainian tourism and would be in- terested in launching projects in this country if • Building the country’s brand and marketing the legislation became more transparent and the it regionally, nationally, and internationally; political situation grew more stable. • Establishing a well-functioning network of In this regard it is worth mentioning that information centers for visitors to ensure Ukraine’s tourist industry has huge invest- exchange and dissemination of complete ment potential. The country has a rich histor- and reliable information about Ukraine’s ical and cultural legacy, diverse natural condi- tourism assets. tions for recreation, a favorable geographical Without these reforms, significant development location, a large number of recreational fa- of the tourism sector in Ukraine is very unlikely. cilities, a market economy, aspirations for European integration, and substantial land Another important step for sector competi- resources that could be used by investors for tiveness development is improving the taxation developing the tourism infrastructure. of travel services. At present the elaboration of proposals and amendments to the Tax Code of Obviously, to create incentives for investors and Ukraine is the main objective and agenda of the attract them to the Ukrainian tourism sector, it American Chamber of Commerce in Ukraine is necessary to create an enabling business en- Travel and Tourism Committee. vironment overall and in the sector specifically. The government took some steps toward that in Tourism development in Ukraine means creat- 2008 when the Cabinet of Ministers approved the ing a favorable organizational, legal, and eco- “Tourism and Resorts Development Strategy,” nomic environment for the development of this aimed at improving the investment climate in industry, and the development and marketing tourism. However, most state officials in charge of domestic tourist services, which are compet- of the tourism sector regulation admitted that itive regionally and internationally. All this can there have been problems with the proper en- be accomplished using the natural, historic, and forcement of this strategy, which undermines the cultural potential of Ukraine, even while pro- achievement of its goals. In addition, the Draft tecting Ukraine’s social and economic interests, Law “On Measures of State Support for Devel- historic sites, and environmental security.

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