Eastern Ukraine fights battle to convince investors

Since the forced annexation of its Crimean peninsula and the Russian-backed rebel occupation of its eastern fringes in 2014, Ukraine has been going through the most turbulent period of its brief 25-year history as an independent state. 

The most challenging environment of all is faced by eastern cities, too far from the EU to make traditional road and rail transport of manufactured goods cost-effective, while near enough to the military front line to deter foreign investment. While western hubs such as Lviv and Ivano-Frankivsk have benefited from low labour costs, highly skilled workers and physical proximity to EU markets, the eastern powerhouses of Soviet days have struggled to keep up.

A low-cost region

“Ukraine is now a low-cost geography, more competitive than China,” says Andy Hunder, president of the American Chamber of Commerce in Kiev. “The automobile-related industry stretches from the EU borders, all the way through West Ukraine to Ternopil.”

Unfortunately for the east, he adds, the transport of heavy parts from Zaporizhia or Dnipro is now a thing of the past. “It is very difficult to raise capital in the east. Zaporizhia is just 150 kilometres from the front line. Some say it’s too risky to invest and that the separatists might return,” says Mr Hunder. The region is also hampered by a temporary blockade of cargo to separatist-controlled territories, which affects the whole supply chain of many industrial processes.

But the much-maligned smokestack cities are not taking things lying down. Thanks to civil defence strategies implemented by local governors and workers in early 2014, they managed to fend off the worst excesses of the separatists, who with Russian help, overturned city administrations in Donetsk and Luhansk further to the east.

Investing in the east

Now many cities are redefining their strategies. And there are some Western firms prepared to invest substantial amounts in Ukraine’s eastern, resource-rich lands. “US companies are in Afghanistan and Iraq, and compared with Ukraine, those are much worse places to do business,” says John Didiuk, director of the Overseas Private Investment Corporation, the US government arm that channels private funds into developing economies, backed by political risk insurance.

“We are able to do much more in Ukraine – our portfolio is currently $630m. We want to be at the stage where we are at full capacity and have to pull back, but we are not there yet,” he adds.

While most of the appetite among foreign firms is for western Ukraine, US businesses are looking seriously at major eastern cities, says Mr Didiuk. And those cities making the most effort to attract Western partners are reaping the rewards. “It all depends on which regions of Ukraine are more active than others in attracting investment. For instance, Kharkiv did a roadshow in the US and we will bring Zaporizhia with us in future. Political risk insurance is very helpful in these cases,” says Mr Didiuk.

Increasingly, the industrialists and mayors running these cities are also beginning to realise that despite the external pressures and the internal corruption traumatising Ukraine’s economy and society, they also face a massive opportunity. After all, if Donetsk and Luhansk – the engine rooms of Ukraine’s old-fashioned commodities-led industry – are no longer under government control, there is room for some new regional champions, provided local conditions and infrastructure are ready to support their development.

Zaporizhia attraction

The initiatives of some local mayors are clearly resonating with Ukrainian representatives of forward-looking foreign firms. Peter O’Brien, country director at EuroCape New Energy, a Monaco-based international renewable wind and energy group, is very optimistic about the prospects for Dnipro and Zaporizhia. The flat steppe region around the latter is ideal territory for the firm’s wind turbines. EuroCape is currently working with international financial institutions to raise €100m for the first phase of its 167-turbine 500-megawatt facilities.

His plan is to eventually develop the Zaporizhia facility into the largest onshore wind park in Europe, heating and lighting at least 1 million homes in the region. “The steppe offers a higher quality wind resource, with lower turbulence than some other areas in Ukraine,” says Mr O’Brien. But the region’s growth potential and the desire of its political leaders to forge ahead have been just as important.

“Although Dnipro may feel more dynamic and entrepreneurial, Zaporizhia is still at the top end of the range for economic growth,” he says. “The local authorities there have done a lot for the city. They have been busy repaving the roads and the message I get from people is that they are trying to do something positive.”

Many observers were dismayed by organised clans of ‘raiders’ who previously ransacked the regional economy. One man singled out by investors for injecting new hope into the region is Zaporizhia mayor Volodymyr Buriak. The charismatic city boss, previously chief engineer at the city’s sprawling steel works, Zaporizhstal, sees his job as reinforcing basic building blocks.

“We can’t do very much to influence industry, the agrarian sector or military production,” he says, proudly listing many of the 160 industrial plants within the bustling city’s boundaries, including helicopter and aircraft engine maker Motor Sich, car manufacturer ZAT and stainless steel manufacturer Dniprospetsstal. “But when it comes to the workers who keep all this going, we can improve their buildings, invest in the transport they use to travel to work, improve their safety and look after their children in the schools and kindergartens.”

Creating stability

It is his responsibility to the people, 760,000 of them, which is key to Zaporizhia’s future, according to Mr Buriak. “The people of Zaporizhia are our main resource and we want to rebuild this city for them, so that our youngsters don’t have to leave for Europe or the US in search of a better life. We want to create future stability,” he says.

Towards achieving these aims, Mr Buriak is dispensing a Hrv7.6bn ($283m) annual budget, a 25% increase on 2016, predominantly on improving communal buildings, roads and transport facilities. At the end of 2015, for example, there was a shortage of 1600 pre-school places, mainly for factory workers’ children. To begin addressing this deficit, the city has taken over seven facilities from Zaporizhstal. New investments into these will make available 12 extra pre-school groups with places for 260 children.

Mr Buriak hopes such initiatives can change the views of foreigners, and indeed some Ukrainians, who still perceive the urban conurbations of Ukraine’s south-eastern industrial heartlands as a corrupt, Soviet-style rust-belt. “We are working very hard to change that view,” he says. “We need to convince our people, our businesses, our investors that they can trust our authorities once again.”

Building bridges

One key part of what Mr Buriak calls the city’s “unfinished business” is the completion of two major bridges across the vast Dnipro river. As well as the iconic hydroelectric dam, the river is also home to Khortitsya island, the preserved historical home of the Zaporizhian Cossacks, flamboyantly portrayed by Hollywood stars Tony Curtis and Yul Brynner in the 1962 film Taras Bulba.

One bridge will connect the city’s left bank to Khortisya and the other will connect the island to the right bank. As transporting goods, people and military hardware across the bridges is considered a matter of national strategic importance, the central government has contributed Hrv200m to the project and regional authorities Hrv40m, in addition to Hrv20m from the city budget. Although building is under way, an extra Hrv740m is needed for this in 2017 alone.

“With the help of investors, we can finish these bridges and allow them to create franchises and collect tolls,” says Mr Buriak. A further investment of Hrv180m has been earmarked for construction of a new airport terminal building during 2017, plus Hrv20m to upgrade the runway, with talks under way with foreign investors for further improvements to the facilities.

The mayor is particularly proud of the 10 weekly flights from the city to Istanbul, with Turkey emerging as a key trading partner for the region and negotiations currently progressing with low-cost Turkish operator Pegasus Airlines, in addition to national carrier Turkish Airlines.

Mr Buriak also speaks hopefully about plans for the rebirth of the city’s once advanced but now dilapidated river port. The installation of a system of locks along the Dnipro river will allow cheaper transport of goods from factories downstream to Odessa and Kherson on the Black Sea, and eventually along the Danube into the Balkans. “We will become a new transport hub for this region,” he says.

The old-style industrial plants, still spewing smoke and dust over the city’s population, are also modernising and cleaning up their act. Zaporizhstal has spent $350m over the past four years to update its technology, but still needs to raise $1.5bn to upgrade its metallurgical processing and is looking for external financing to help secure this next tranche.

“The sentiment of Western investors is currently not favourable when it comes to Ukraine,” says Rostyslav Shurma, the plant’s 33-year old CEO. “But we are financially healthy as a business, with no debt. Investors look at our quality, efficiency and balance sheet and tell us: ‘If you were anywhere else apart from Ukraine, we would work with you’.”

Challenges to expansion

But there are many challenges to the city’s economic expansion programme. Zaporizhia is officially home to 38,200 internally displaced persons, forced to flee their homes in war-torn Donetsk and Luhansk, with true numbers believed to be double this. “There is a big mass of people who have come to us from the temporarily occupied territories,” says Mr Buriak. “The state is helping, but we would like this support to be a bit larger. This is a challenge for the whole country. People need somewhere to live and somewhere to work, so they are not depending on state benefits.”

There is also a note of caution sounded by some commentators about an ‘enemy within’ some of the industrialised cities. “There are still seeds of latent, hidden rebellion in eastern cities such as Kharkiv and Zaporizhia,” says Vadym Karasyov, one of Ukraine’s best known political pundits and a former presidential adviser, close to opposition circles. “[Russian president Vladimir] Putin’s partisans are still there and in the right circumstances, he can give them the signal. Just because they are working away in their factories, it does not mean they are loyal to the authorities.”

The government in Kiev can still turn things round if it shows signs of reform and progress in the battle against corruption, says Mr Karasyov. But the more the government falters, the more likely it becomes that members of the one-time Russian-leaning disaffected minority will lift their heads.

These elements are also likely to be encouraged by the ongoing redrawing of the global political order. “A lot of people in Ukraine see the victory of [US president Donald] Trump as the victory of Putin. If you add in Brexit and election results in Moldova and Bulgaria, with potential election shocks in France, Germany and Italy, plus the recent Dutch referendum, it gives them plenty of encouragement. A lot depends on the actions of the political class in Kiev,” says Mr Karasyov.

Looking for leadership

Investors are worried both about the conflict in the country and Ukraine’s political and economic instability in general, says Zaporizhstal’s Mr Shurma. “Now that there has been no economic reform in the past year, questions are being asked of the Kiev authorities.”

The ultimate ownership of eastern Ukraine’s heavy industry by a handful of colourful, politically connected oligarchs may also be a factor that foreign investors are weighing up. Zaporizhstal, for instance, is majority owned by Metinvest, the largest company of the SCM conglomerate, founded by one of Ukraine’s leading oligarchs, Rinat Akhmetov, who controversially runs factories and mines on both sides of the conflict lines.

But the mayor quickly dismisses any talk of renewed separatism in this region. “Even if people here speak mainly Russian, Zaporizhia is Ukraine and our people want to see their own city remain in their own country,” says Mr Buriak. “I can say, without any doubt, you will never see a DNR [Donetsk National Republic] or LNR [Luhansk National Republic] in Zaporizhia. Maybe foreign investors are being given the wrong information about us.”