Ukraine budget profits exceeded in January
According to information from Ukraine’s State Treasury, the budget profits in January reached UAH 12.2 bln (USD 1.6 bln), which is 1% higher than the planned figure. Previously, the Treasury reported that as of January 26, 2009, the budget profits were 55% below the planned indicator for the entire January.
On January 30, the President of Ukraine, Viktor Yuschenko, criticized Prime Minister Yulia Tymoshenko in a publically broadcasted message to the nation for an unrealistic budget and stated that the budget profits’ underperformance may lead to high inflation, UAH devaluation and the growth of social tensions. The 2009 budget assumes UAH 238.9 bln (USD 31.0 bln) profits and UAH 267.3 bln (USD 34.7 bln) expenses with a maximum budget deficit of UAH 31.1 bln (USD 4.0 bln).

Our view:
While the late January message about the budget profits’ underperformance raised concerns regarding the possible increase of the money supply to cover the budget deficit, as well as the resultant UAH devaluation and inflation acceleration, the recent announcement of profits being greater than anticipated somewhat ease the tensions.
Nevertheless, we still view the existing budget as overoptimistic and expect it to bear substantial pressure on UAH devaluation and inflationary processes in 2009. Sokrat anticipates UAH to depreciate to 12.0 UAH per USD (against the current 8.0 indicator) by the end of 2009, with an average exchange rate of 11.0. Sokrat further anticipates a 23.8% consumer price growth in 2009.

Ukraine increases steel output 5% MoM in Jan: POSITIVE
Interfax-Ukraine reported on steel production numbers for January. According to our calculations, the total crude steel output of Ukrainian steelmakers amounted to 2.12 mln mt last month. This is 5% above the December reading of 2.03 mln mt, but still 31% below the average 2008 monthly output of 3.09 mln mt, and 41% below the average 2007 monthly reading of 3.57 mln mt.
Production of pig iron amounted to 1.87 mln mt in January (+34% MoM, -28% to 2008 average). The January production of rolled products was 2.00 mln mt (-8% MoM, -24% to 2008 average).

Our view:
POSITIVE. Ukrainian steelmakers persist in keeping production volumes up during these difficult times.
The slight drop in rolled steel products output is likely due to the details of statistical reporting, such as the effect of transient material inventories, for such short periods (a month). The ratio of rolled products output to steel output (which is determined mainly by losses due to casting and rolling) was 0.84 in 2006 and 2007, and 0.85 in 2008. However, in December 2008 it was 1.07 (abnormally high), and for January 2009 the ratio was 0.94 (still too high).
The substantial pig iron production increase is also somewhat irregular: the pig iron/steel ratio was 0.81 in 2006, and 0.83 in 2007 and 2008. The value for December 2008 and January 2009 are, correspondingly, 0.68 and 0.88. In principle, in steelmaking, pig iron may be substituted by scrap, and pig iron itself may be sold. However, we do not observe much activity at the pig iron markets, and also suggest effect inventories on statistics over short periods.

Ukraine increases coke output 13% MoM in Jan: POSITIVE
Interfax-Ukraine reported on coke production for January, which amounted to 1.28 mln mt. This is up 13% MoM, but still 21% below the average 2008 monthly output of 1.62 mln mt, and 24% below the average 2007 monthly reading of 1.68 mln mt.

Our view:
POSITIVE. The production volumes are qualitatively stable.
However, there are quantitative details. Coke is used in the production of pig iron. Recently, there has been an increase of about 20% in the coke consumption coefficient due to the substitution of natural gas with coke. We would generally expect coke production volumes to follow those of pig iron. However, due to the likely effects of inventories on short-term statistics, the MoM increase in coke production – 13% – is smaller than that of pig iron, which is 34%. We also note that coke export volumes also must fluctuate from month to month.

Ukraine decreases pipe output 62% MoM in Jan: NEGATIVE
Interfax-Ukraine reported on pipes and tubes production for January, which amounted to 84 thsd mt. This is down 62% MoM, and 59% below the average 2008 monthly output of 205 thsd mt, and 62% below the average 2007 monthly reading of 220 thsd mt.
Out of the 84 thsd mt for the entire industry, Khartsyzk Pipes & Tubes [HRTR UZ, N/R] produced 43.3 thsd mt of pipes, which is down 18% MoM and up 34% from the 2008 average monthly volume of 32.3 thsd mt.
Khartsyzk Pipes & Tubes is a member of the MetInvest Group, an assembly of the metallurgical and mining assets belonging to Rinat Akhmetov, which is strategically directed by Metinvest Holding LLC. Vadim Novinskiy and his Smart Holding have a 25%+1 stake in Metinvest Group business.

Our view:
NEGATIVE. Pipes production volumes have recently been highly volatile: 197 thsd mt in October 2008, 113 thsd mt in November, 220 thsd mt in December, and now 84 thsd mt in January.
According to our calculations, all pipes and tubes producers other than Khartsyzk Pipes & Tubes, together, produced 41 thsd mt of pipes, which is down 75% MoM. This is a highly NEGATIVE volatile swing to the downside.

DNSS net loss UAH 374 mln in 4Q08: NEGATIVE
Ukrainian News, a news agency, reported on data provided in a Dniprospetsstal [DNSS UZ, U/R] AGM invitation. The FY08 net loss amounts to UAH 204 mln, or USD 38.7 mln (at FY08 USD/UAH average of 5.27).
For 9M08, both EBT and net income amounted to UAH 170 mln, or USD 32.2 mln. Thus, the net loss for 4Q08 amounts to UAH 374 mln, or USD 71 mln. In 2007, the company demonstrated a net income of UAH 345 mln, or USD 68.3 mln.
Dniprospetsstal is the only Ukrainian producer of a wide variety of specialty steel products. The Privat Group used to own 34.2%, and, as of May 2008, VS Energy likely controlled 60%. In August 2008, a 13% block changed hands, and it is possible that the Privat Group and VS Energy now control 47%. The VS Energy group is widely expected to sell its stake to a long-term strategic owner.

Our view:
Highly NEGATIVE.
We have no explanation for such a poor financial performance in 4Q08, and strongly suspect that the Privat Group has started to implement its tax “optimization” schemes. As is often the case at Privat-controlled companies, after reasonable income numbers for the first three quarters of a given year, the fourth quarter is awful, and the full-year income is typically close to zero or negative.
After the EastOne Group sold its entire stake in Dniprospetsstal and withdrew from leading the company, it was possible that a new strategic owner would take the company over. This has not yet happened, and the corporate governance at the company is currently very poor, as is apparent to us from the FY08 results. Until the new strategic owner takes control, we recommend staying away from Dniprospetsstal shares.

Stakhaniv Railcar’s output slid in 2008: NEUTRAL
The Luhansk-based Stakhaniv Railcar Works [SVGZ UZ, BUY], one of the largest wagon producers in Ukraine and part of the AvtoKrAZ holding, reported that it produced 5,511 cargo wagons in 2008, which is down by 0.8% YoY. Interfax-Ukraine reported that the company`s press service disclosed these results on January 30, taking into account the plummeting demand on wagons in 4Q2008.
The company stated that its gross income exceeded 2007 earnings levels by 49% (at UAH 1.77 bln). In 2008, the plant had resumed production of reinforced constructions for industrial consumers, which saw nearly 700 metric tons of constructions sent to the Poltava Mining company by the end of the year. While the company did not disclose forecasts for 2009, some clients have confirmed orders, including for shipments to Iran, Turkey, Mongolia, Morocco, Oman and Australia. Already in January 2009, a 200 metric ton capacity carrying cradle for an articulated carrier was shipped to the OJSC Zaporizhtransformator. Stakhaniv Railcar Works ended 2007 with a net profit of UAH 49.8 million, having increased its net revenue by 160.07% or UAH 0.731 bln to UAH 1,188 bln, compared to 2006. In that same year, its railcar output rose by 154.5% YoY to 5,556 wagons.
Kostiantyn Zhevaho`s Finance & Credit Group controls the AvtoKrAZ Holding to which Stakhaniv Railcar Works is affiliated.

Our view:
This news is slightly negative for SVGZ, albeit expected. 4Q2008 marked the beginning of an official recession in the railcar production industry in Ukraine, which resulted in the company’s recent production levels being sliced significantly, both in comparison to previous months and 2007.
We think that SVGZ may continue decreasing production volume in 1Q2009 due to a drop in demand, especially on the part of private rail operators, captive transport and leasing companies. We have already seen a significant decrease in cargo volume transported by rail due to the economic crisis. Moreover, cargo producers have announced that they will cut their output and review their CAPEX strategy for the next year, while leasing companies, which mainly belong to banks, are limited in terms of financial resources. According to our information, railcar prices significantly dropped in 4Q2008 from the peak level of USD 100k to USD 35-40k. Leasing companies that purchased new wagons and rented them out to cargo producers have received notes to review and decrease leasing payment because, today, it’s unprofitable. Also leasing companies, apart from government ones that work with RZhD and UZ, have frozen all plans for new purchases, at least until the end of 2Q2009 due to lack of interest and limited access to financial resources.
For an in-depth analysis of Stakhaniv Railcar Works, see our report “Railcar Producers in the Spotlight – Buy Your Ticket on Time”, issued by Sokrat in July 2008. For more information please contact the Head of International Sales, Constantine Lisnychyy, +38 050 310 0819, lisnychyy@sokrat.kiev.ua

Ukrproduct to buy back a 20% stake: NEUTRAL
Ukrproduct [UKR LN, N/R], a Ukrainian independent dairy producer, held an emergency general meeting on January 29, 2009. The company’s shareholders approved a management decision to buy back 10 mln shares, or a 20% stake, in the company at a price of GBP 0.1 per share and a maximum of no higher than 3% of the mean closing price for the preceding five trading days.

Our view:
We view this news as neutral. The shares buy back will have little effect on the company’s liquidity. Ukrproduct’s liquidity has stayed at a low level for the last six months (GBP 2.61 thsd daily average), which can be explained by a small market capitalization at GBP 6.21 mln. Moreover, Ukrproduct’s current sustainable free float of 32% leaves enough room for investor’s movements even after the 20% shares buy back.

SCM sold its beer asset: NEUTRAL
System Capital Management (SCM) has officially stated that it is no longer a major shareholder in the Luhansk brewery. SCM sold its beer asset to Keg Service Ltd., the deal details for which have not yet been disclosed.

Our view:
In May 2008, SCM sold its main beer asset “Sarmat” to SABMiler and, according to our estimates, the market share for Sarmat will amount to approximately 5%. The consolidated market share of the remaining assets totaled a mere 2.5%. Later in 2008, deals for the sale of “Dnepr” and “Krym” were finalized. Amidst the remaining assets, the most interesting is “Poltavpivo”, whereas the Luhansk brewery owns obsolete assets and became idle in 2008. We believe that “Poltapivo” may be interesting for acquisition by a medium-sized company.

POON’s 2008 net income up 24.5%
Poltavaoblenergo [POON UZ, BUY] increased its net income in 2008 by 24.5% to UAH 19.9 mln. The net revenues of Poltavaoblenergo in 2008 increased by 28.3% to 1,302.0 mln UAH. In 2008, POON reduced electricity distribution by 3.2% YoY to 2,612.7 GWh. The level of payments for purchased electricity in 2008 reached 100%. Poltavaoblenergo operates electricity grids located in the Poltava Region, as well as providing the distribution and supply of electricity.

Our view:
Although POON’s 2008 financials look bright, they could be even better if the company would not have experienced a sharp decrease in electricity distribution in the fourth quarter of 2008. Still, POON’s net margin of 2% is average for the industry. In terms of its 2008 financials, POON is currently traded at a P/S of 0.27 and P/E of 8.33.