Policy Handbook

A Corporate Governance Assessment of Ukraine’s State-owned Aviation Sector
The Case of Antonov

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Key Contact: Mr Antonio Somma Head of Programme OECD Eurasia Competitiveness Programme antonio.somma@oecd.org Mr Daniel Blume Senior policy analyst within the OECD Corporate Affairs Division, responsible for the OECD’s work on corporate governance in the Eurasian and Latin American regions, as well as for corporate governance work with OECD countries Daniel.Blume@oecd.org www.oecd.org/daf/corporateaffairs

A   Corporate   Governance   Assessment   of   Ukraine’s   State ­ Owned   Aviation   Sector:   The   Case   of   Antonov    


The OECD Eastern Europe and South Caucasus Initiative Launched in April 2009, the OECD Eastern Europe and South Caucasus Initiative is part of the OECD Eurasia Competitiveness Programme, which aims to contribute to economic growth in Armenia, Azerbaijan, Belarus, Georgia, Moldova, and Ukraine. Its objective is to share with the governments of the region the knowledge, experience and good practices of OECD countries to create a sound business climate for investment, enhance productivity and support entrepreneurship, develop the private sector, and build knowledge-based economies to render its sectors more competitive and attractive to foreign investment. Its approach comprises both a regional policy dimension, which entails peer dialogue and capacity building, and a country-specific aspect supporting the implementation of a number of prioritised reforms. A sector analysis is also included, covering the formulation of targeted policies and strategies requested at the industry level. Within the framework of the programme, public authorities, the private sector and civil society in these countries have been engaged in a dialogue and collaboration process to support policy actions and identify the key barriers to sectoral competitiveness. The participation of all the stakeholders in the reform process, including foreign investors, is considered to be crucial for guaranteeing the effectiveness and transparency of the recommended policies.


Since 2009, the OECD Eurasia Competitiveness Programme has supported the Government of Ukraine in advancing national economic reform through its “Sector Competitiveness Strategy for Ukraine” project. This Assessment contains specific conclusions of the second phase of the project. It addresses specific policy barriers to improve competitiveness in one of the sectors with high investment potential, namely the state-owned civilian aircraft manufacturing sector, with a focus on corporate governance. During phase II (2011-12) the OECD worked with the Government, private sector, international organisations and civil society to advise on how to remove sector-specific policy barriers, exploiting its industry and policy expertise to focus on the most practical and effective measures. The project is conducted in collaboration with the Government of Ukraine and financially supported by the Government of Sweden.


This Assessment has been prepared as an input into the work conducted by the OECD Eurasia Competitiveness Programme under the authority of the Eastern Europe and South Caucasus Initiative Steering Committee and the OECD Working Party on State Ownership and Privatisation Practices, in consultation with the Government of Ukraine and with the participation of the private sector in Ukraine. It has been prepared based on input received through responses to OECD questionnaires provided by stakeholders in Ukraine, along with interviews with relevant government agencies, Antonov management, other stakeholders, and review of relevant documentation. Representatives of the administration of the President of Ukraine, several Ministries, government agencies, and state-owned enterprises in Ukraine contributed to this work1. They include:

Iryna Akimova, First Deputy Head of the Administration of the President of Ukraine; Valeriy Khoroshkovsky, First Deputy Prime Minister of Ukraine; Andriy Klyuyev, former First Deputy Prime Minister of Ukraine and former Minister of Economic Development and Trade; and Volodomyr Horbullin, Former Head of National Space Agency of Ukraine, former Secretary of the National Security and Defence Council, .member of National Academy of Sciences of Ukraine. The Ministry of Economic Development and Trade: Petro Poroshenko, Minister of Economic Development and Trade; Anatoly Maksyuta, First Deputy Minister; Volodymyr Bandurov, Deputy Minister; Volodymyr Pavlenko, Deputy
The contributions do not imply the contributors’ endorsement of the Assessment or its recommendations as a whole.



Minister; Olena Kucherenko, Head of Department on International Cooperation and Foreign Technical Assistance; Mr. Vitaliy Maystrenko, Director of Department on Industrial Policy; Mr. Veniamin Filatov, Deputy Chief of Unit on Defence Industry, Department on Defence and Security Economy; Ms. Tetyana Zinchenko, former Chief of Unit on International Cooperation and Foreign Technical Assistance; Ms. Oksana Ivanova, Chief Specialist, Department on International Cooperation and Foreign Technical Assistance; and Mr. Vitaliy Troyan, Chief Specialist, Department on International Cooperation and Foreign Technical Assistance.

Representatives of the State Agency on Public Equity and State Property: Mr. Dmytro Kolesnikov, Head; Mr. Oleksandr Kalenkov, First Deputy Head; Mr. Oleksandr Shubin, Advisor to the Head of the State Agency on Public Equity and State Property; Mr. Sergiy Syrotyuk, Director of Department on Interaction with High-Tech Enterprises; and Mr. Volodymyr Balyasnikov, Deputy Director of Department on Interaction with High-Tech Enterprises. Representatives of the State-Owned Enterprise Antonov: Mr.Yurii Andriyenko, Vice President; Mr. Oleksandr Kiva, Vice President; Mr. Valeriy Ivanov, Deputy General Director; and Mr.Oleksandr Gridasov, Chief Specialist. Participants to the Working Group on Machinery and Transport Equipment Manufacturing: Ms. Tetyana Kobzeva, Chief of Unit on International Investment Statistics, Industrial Statistics Department, State Statistical Service of Ukraine; Mr. Yuri Prokopenko, Deputy Director of Department on Market Research, Anti-Trust Committee; Ms. Myroslava Sobko, Deputy Director of Industries Department, State Statistical Service; and Mr. Leonid Shofarenko, Chief of Unit on Cooperation and Investments, State Aerospace Agency. Experts who provided their inputs: Mr. Alexander Okunev, Director of Corporate Governance Centre at the Ukraine International Institute of Business.

The Swedish International Development Agency (SIDA) which was donor to the project and provided important guidance and support: His Excellency Stefan Gullgren, Ambassador of Sweden to Ukraine; Mirja Peterson, Counsellor and SIDA Country Director Ukraine; and Olga Tymoshenko, SIDA Programme Officer. The Co-Chairs of the OECD Eastern Europe and South Caucasus Initiative, Sweden (His Excellency Anders Ahnlid, Ambassador and Permanent Representative of Sweden to the OECD) and Poland (His Excellency Paweł Wojciechowski, Ambassador and Permanent Representative of Poland to the OECD).

This Assessment was written under the guidance of Carolyn Ervin, Director of the Directorate for Financial and Enterprise Affairs (DAF). James Colvin, consultant to the OECD, has served as lead drafter, with additional input from Mr. Arto Honkaniemi, Senior Financial Counsellor, Prime Minister’s office, Finland, representing the OECD Working Party on State Ownership and Privatisation Practices. Mr. Daniel Blume of the OECD Secretariat supervised the study with additional input from Mr. Hans Christiansen. Antonio Somma, Head of the OECD Eurasia Competitiveness Programme and Gregory Lecomte, Policy Analyst, of the OECD Secretariat, respectively supervised and co-ordinated the Ukraine Sector Competitiveness Strategy Project, within which this Assessment was carried out. Local support in Ukraine was provided by Oksana Shulyar, Local Consultant and former Adviser to the Head of the Parliamentary Committee of Ukraine on European Integration. Ms. Lyudmilla Strelyanaya-Taranina provided interpretation and translation.


Valuable administrative support was provided by Anna Chahtahtinsky, Orla Halliday, Elisabetta Da Prati, Lynn Whitney, Anna Soderstrom, and Katjusha Boffa. This Assessment is published under the authority of the Secretary-General of the OECD.


Table of contents
Acronyms and abbreviations ....................................................... 11 Executive summary...................................................................... 12 Assessment .................................................................................. 13 Recommendations ....................................................................... 15 Introduction ............................................................................... 18 Chapter 1: Background and context .................................................... 21 History of Antonov ....................................................................... 21 Motivation for improved governance ............................................. 22 Chapter 2 : Business description .................................................... 29 Antonov’s current corporate structure ......................................... 29 SOE forms in Ukraine .................................................................. 31 SOE Antonov ............................................................................... 32 Antonov state aircraft manufacturing concern (“Antonov concern”)...................................................................... 33 Antonov manufacturing companies .............................................. 33 Chapter 3 : Antonov and its legal environment ............................. 35 Disparate ownership forms .......................................................... 35 Challenges arising from the unitary enterprise structure ............. 37 Industrial policy framework ......................................................... 42 Financial transfers between Antonov and the government............ 43 Regulatory issues ......................................................................... 46 Chapter 4 : The ownership structure ............................................. 48 Enhancing the ownership policy for SOEs and for Antonov .......... 50 Improving the centralised (or coordinating) ownership entity ....... 51 Reducing ownership entity involvement in day-to-day management ................................................................................ 52 Exercise of key ownership responsibilities should be strengthened ................................................................................ 54 Chapter 5 : Transparency and disclosure ....................................... 57

Annual audited reports ................................................................ 58 Financial reporting standards ...................................................... 59 Internal risk control ..................................................................... 60 Separation of military and civilian branches ................................ 61 Chapter 6 : Recommendations for reform...................................... 64 Legal form .................................................................................... 66 Regulatory framework, industry assistance and state transfers ... 68 Ownership ................................................................................... 69 Transparency / Disclosure........................................................... 71 Board of directors ........................................................................ 74 Bibliography ................................................................................... 77

Figures 2.1. Antonov Group Structure ...................................................... 30 Boxes 2.1 SOE forms in Ukraine ........................................................... 31 5.1 Boeing's approach to splitting civilian and military activities ............................................................................... 63


Acronyms and abbreviations

SOE Antonov Antonov Concern IFRS JSC MRO OECD PPP R&D SIDA SOE SPF State Agency for Corporate Rights UAC VAT

State Owned Enterprise Antonov Antonov State Aircraft Manufacturing Concern International Financial Reporting Standards Joint Stock Company Maintenance, Repair and Overhaul Organisation for Economic Co-operation and Development Public Private Partnership Research and Development Swedish International Development Agency State Owned Enterprise State Property Fund State Agency for Management of the State Corporate Rights and Asset Management United Aircraft Corporation Value Added Tax


Executive summary
Assessment Strong Motivation for Governance Reform Ukraine has a long and rich history in the aeronautics sector, and retains both design and manufacturing capacity. While a number of enterprises have been privatised, Ukraine has maintained ownership of Antonov because of its strategic role in Ukraine’s economy and security. However, there has been a gradual reduction in research and technological potential in Ukraine’s aviation industry, and this has slowed its relative position in the sector compared to other countries. Investment deficits, and a corresponding lack of competitiveness, are spread across research capacity, infrastructure and human capital. Reform of the governance structures is one of the tools the Government is seeking to use to re-set the industry on a growth path. They represent both an element of that reform process, but also a tool to promote other longer-term reforms. In 2008 Ukraine adopted a Strategy for the Development of the National Aircraft Sector for the period until 2020. The strategy seeks to address this apparent decline by addressing the organisational, legal, financial, economic and other problems of the industry’s functioning and development. The Ukraine aircraft industry is limited in its financing capacity in both the development phase and in customer financing. Aircraft manufacturing, especially in the development phase, requires a large amount of investment and a high riskthreshold. In this context, improving the governance and ownership arrangements at Antonov is designed to assist in increasing their attractiveness to private sector investors.


An update to Antonov’s current governance structures could better prepare the company to deal with this strategic shift, and would harmonise its governance with the model of governance being adopted by almost all of its likely competitors. The fastpaced nature of change in the sector will demand an ownership and management model that can respond dynamically to the pace of industry reform. In short, for Antonov to be a world-class company in this environment, it will be necessary for the company to move to a world-class system of corporate governance. The Current Legal Forms Create Governance Challenges The existing corporate structure governance challenges, as follows:





Unitary Enterprises do not have a board of directors – each unitary enterprise has a Director-General who is appointed under a performance contract and reports directly to the ownership agency. There is no Board of Directors intermediating the relationship between the ownership agency and the management of the companies. A lack of financial flexibility – Unitary Enterprises such as SOE Antonov have no share capital and do not have clear ownership of their underlying assets. There is limited capacity to restructure the capital of Antonov by way of equity, short of vesting on them additional assets. Legal restrictions on the capacity to enter into Joint Ventures - Ukrainian SOEs are forbidden to establish joint ventures or corporate partnerships pursuant to the Decree of the Cabinet. The original purpose of this legislation was the prevention of SOE management corruption. The ban severely limits the capacity of Antonov to pursue strategic relationships with manufacturers and suppliers.


The legal arrangements for Unitary Enterprises do not accord with private sector norms – for example, the exemption of Antonov (as a Unitary Enterprise) from insolvency and bankruptcy procedures creates significant perceptions of credit risk associated with the enforcement of company debts, when the reality is probably that the Government would stand behind the company in the event of financial stress.

The structure of Antonov Concern also raises governance challenges. The Concern lacks control over the operations of the constituent companies: it is not a holding company but a collegiate structure. This has a consequent negative impact on its capacity to deliver its mandate. In addition, board members lack independence. The board of the Concern is comprised of the Directors-General of the constituent companies, which compromises the capacity of the Board to act in the joint interests of the companies. There are no non-executive members of the board of the Concern. Finally, there is an unclear relationship between the Director-General of the Antonov Concern, and the Director General of SOE Antonov (who is also Chair of the Concern). Recommendations Ownership Policy should be strengthened In the case of Ukraine, the key elements of an ownership framework exist, although they are not unified in a consolidated policy document. A consolidation of these elements into a unified policy would allow Ukraine to be more specific about its objectives for the state-owned sector as a whole. This situation is exacerbated by the fact that there is a distribution of mandates and functions between different government bodies. This means there is no single government entity with full oversight of the SOE sector and oversight responsibilities are spread across a number of government ministries and agencies.


Financial transfers between Government and Antonov are complex and involve a mix of various subsidies, capital injections, debt guarantees and tax holidays, offset by high dividend obligations. Focused ownership would provide a framework for negotiating more efficient capital funding and subsidy arrangements. The biggest governance issue facing SOEs, and Antonov in particular, is the extent to which the company is given the discretion to function. The State Agency for Corporate Rights (the oversight body for Antonov) is significantly involved in the companies’ operations. The lack of a recognised board of directors has created an oversight vacuum, which the Agency has filled. Reform to the governance structures would free the Agency to adopt a more conventional ownership role, focusing on core shareholder functions such as board appointment and performance monitoring. Transparency and Disclosure are Sub-Optimal The level of disclosure by SOEs in Ukraine is generally poor compared to international best practice. Ukrainian law does not stipulate making public the annual reports of SOEs, and in the case of Antonov in particular, SOE accounts and other company information may be treated as a state secret due to its strategic and defence-related functions. Antonov releases its annual financial information based on local accounting standards, although the information lacks in both quality and comprehensiveness. The financial statements provided by Antonov contain less detailed disclosure than would be expected under International Financial Reporting Standards (IFRS). For instance, details of related party transactions are not disclosed, and (given the concerns regarding joint ventures and asset stripping), more detailed and rigorous disclosure should be considered a threshold requirement. A move to IFRS reporting would represent a significant advance. There is a concern that the military elements of Antonov’s operations would militate against more comprehensive disclosure. To the extent this is a concern, different levels of disclosure could

be adopted for the military enterprises, while still allowing for the synergies (and economies of scale) that would accrue from combining production. Adoption of a Holding Company Structure would Facilitate Reform The report makes a number of recommendations for reform, but the threshold measure is for the company to adopt a more efficient corporate structure. The most viable arrangement would be for a holding company to be established to assume the coordination activities currently undertaken by Antonov Concern. The holding company should be organised as a joint stock company consistent with private sector norms. The three unitary enterprises should similarly be transformed into joint stock companies, and be established as direct subsidiaries of the holding company. Adopting this form would put them on a similar footing to their key global competitors and should be structured in a way to provide them with maximum operational and capital flexibility. The use of the joint stock company structure provides an opportunity for the Government as owner to appoint highly qualified boards of directors, who have the diversity of skills and expertise to help Antonov meet the significant strategic challenges that they face. The Boards would ideally be composed of a majority of non-executive directors and an independent Chairperson. Board appointments should be made using open and transparent processes focused on merit, and including provisions to guard against conflicts of interest. The holding company structure would also provide a framework for pursuing reform to the transparency and disclosure of the companies, and for managing the capital funding framework. If necessary, military and civilian aircraft manufacture could be quarantined into separate legal entities within the structure.


As a part of the OECD Eastern Europe and South Caucasus Initiative (see Box below), a sector competitiveness project for Ukraine was conducted as Phase I of a wider project to improve the country’s sectoral competitiveness and investment framework. The project follows a three-phase approach lasting five years (2009-14): first, it develops a sector competitiveness strategy (Phase I); second, it advises on specific policy options to address existing constraints (Phase II); finally, it creates mechanisms to embed sustainable reforms (Phase III). The aim of this second phase of the project, financed by the Government of Sweden, is to provide advice on specific policy recommendations that can be implemented to overcome the existing barriers to competitiveness. This Assessment constitutes the output of Phase II of the project. Phase I (2009-11) identified the sector-specific sources of competitiveness for key sectors: agri-business (with a focus on the grain and dairy value-chains), energy-efficiency and renewable technologies (with a focus on the biomass value-chain), and machinery manufacturing and transport equipment (with a focus on the civilian aircraft value-chain). The analysis identified existing challenges and suggested targeted policy recommendations in each sector. Corporate governance was identified as an important barrier to competitiveness in the stateowned civilian aircraft manufacturing sector. The findings of project Phase I are summarised in the Sector Competitiveness Strategy of Ukraine report, which was released in 2012. Phase II (2011-12) focuses specifically on how to remove this barrier. This Assessment makes recommendations concerning the corporate governance framework for and practices of Ukraine’s state-owned enterprises involved in producing Antonov aircraft, in the context of the Government of Ukraine’s broader approach to the oversight of its state-owned enterprises. It assesses the corporate governance of Antonov with reference to the OECD Guidelines on Corporate Governance of State-Owned Enterprises.

For the purposes of this report, Antonov refers to the group of related but separate Ukrainian SOEs involved in the design, marketing and manufacture of Antonov aircraft. The core SOE is SOE Antonov, which has its foundations as the design bureau for all Antonov aircraft. In addition, there are two aircraft manufacturing enterprises. These three companies are all incorporated as Unitary Enterprises, which is a corporate form that has its roots in the Soviet legal system. Apart from these three enterprises, in 2010 the Antonov Aircraft Manufacturing Concern was established to provide for joint marketing of aircraft across the design and manufacturing operations.


Chapter 1 Background and context
History of Antonov
Ukraine is one of the few countries in the world currently producing modern aircraft. The Antonov Design Bureau was established in 1946 as a part of the USSR’s wider aircraft manufacturing sector, and it has since that time designed many aircraft of different types and classes. Ukraine’s involvement in the sector has its roots in the former USSR’s capabilities in the aerospace sector. The USSR had a decentralised approach to aircraft manufacture, with design bureaus separated from serial production. Antonov began as one of the core design bureaus in the Soviet system. However, in addition to the Antonov Design Bureau, Ukraine was (and is) also the base for a number of state-owned serial production plants, including the Kharkov State Aircraft Plant and the No.410 Aircraft Plant for Civil Aviation. A third serial production plant, the Kyiv State Aircraft Plant, was merged with the Design Bureau in 2010 to form the SOE Antonov. After Ukraine’s independence, a number of the serial production plants, design bureaus and some of the science centres involved in the aircraft sector were separated and privatised. As such, the private sector also plays an active part in Ukraine’s civil aircraft sector, with parts suppliers such as the engine supplier, JSC Motor Sich, and light aircraft manufacturers Aeros, Aeroprakt and Aerokopter. However, the state has maintained Antonov as a state-owned enterprise because of its central strategic role in Ukraine’s economy and security.

Antonov remains involved across the design and serial manufacture of a wide spectrum of aircraft, including large cargo aircraft (AN-124, AN-225), military transporters (AN-70) and civilian passenger aircraft (AN-148). There is also a focus on dual use aircraft, that is, aircraft that can be adapted to both civilian and military use. According to its latest financial statements, Antonov employs over 12,000 people. In the 2011 financial year it recorded revenues of UAH 3.17 billion (~ USD 395 million)2, and profits of UAH 193 million (~ USD 24.5 million). This was an increase from the previous year where revenues were UAH 2.28 billion (~ USD 285 million) and profit of UAH 82 million (~ USD 10 million).

Motivation for improved governance
The aviation industry in Ukraine has been defined by the Government to be a sector that is “strategically important for the security and economy for the state”. Reflecting this importance, in 2008 the Cabinet of Ministers in Ukraine adopted a Strategy for the Development of the National Aircraft Sector for the period until 2020. The Strategy highlights that Ukraine has the potential to increase the development and production of aircraft, and aircraft parts, across a range of aircraft types. However, there has been a gradual reduction in research and technological potential in the aviation industry, and this has slowed Ukraine’s relative position in the sector compared to other countries. Investment deficits, and a corresponding lack of competitiveness, are spread across research capacity, infrastructure and human capital. The Strategy seeks to address this apparent decline by addressing the organisational, legal, financial, economic and other problems of the industry’s functioning and development. The Strategy makes clear that reform of the governance structures of state owned enterprises and in the ownership arrangements that apply at the shareholder level, represent an element of that reform process, and also a tool to promote longer-term reform.

Based on an average USD/UAH exchange rate for 2011 = ~8.0.


Antonov and the civil aviation industry is hampered by a lack of access to finance To provide a platform for future growth, the Strategy proposes structural reforms to the industry. The government’s plans for the sector, and for Antonov in particular, include allowing them to: raise capital on market terms; partner with private enterprises (PPPs); and engage in more flexible procurement practices. This approach is designed to help attract extra-budgetary resources for financial reform in the domestic aviation industry, and to reduce the spending of budget funds for industry development. The OECD’s 2012 Ukraine Sector Competitiveness Strategy notes that the Ukraine aircraft industry is limited in its financing capacity in both the development phase and in customer financing. Aircraft manufacturing, especially in the development phase, requires a large amount of investment and a high riskthreshold. The financing needs of the industry include not only financing of aircraft development, but also financing of aircraft sales, and the provision of extensive after sales service (repair, maintenance and overhaul). For Antonov’s competitors, these financing needs are usually addressed through banks and financial markets, risk-sharing partnerships and various kinds of government support. The Ukrainian civilian aircraft industry is lagging on all these dimensions. In Antonov’s case, the sources of finance are currently significantly constrained compared to its competitors. The strategy focuses on strategic partnerships Because of the financing deficit, one key direction of the Ukraine Government Strategy is to create conditions for further development of the aviation industry through engaging with foreign strategic partners. Antonov has already made some progress in this regard, with the Antonov Concern entering into a form of joint venture arrangement with the United Aircraft Corporation (UAC) in


Russia.3 According to recent media reports4, the joint venture with UAC intends to manufacture 50 large freighter planes (An124 Ruslan) and at least 150 military transport planes (An-70) in cooperation with Antonov Concern by 2030. It is likely that this reflects an ongoing process whereby current and future production of Antonov aircraft will increasingly rely on global partnerships, and risk sharing arrangements, with suppliers and other manufacturers. For instance, with Antonov’s newest plane, the AN-148 regional jet, parts suppliers have been sourced from vendors in 14 different countries. Despite this, the heavy dependence on Russian partners has hurt Antonov’s ability to market the airplane outside its traditional sphere of influence. If Antonov has ambitions to seek wider market access, it is likely that the company will need to continue pursue wider country participation in its aircraft financing, development and manufacturing. In this context, improving the governance and ownership arrangements at Antonov will assist in increasing their attractiveness to private sector investors. Technological and strategic changes demand responsive management Aside from an increasing focus on commercial partnerships, strategic changes in the aircraft manufacturing industry are likely to propel reform. Currently, four manufacturers dominate the passenger aircraft market. Two of them, Airbus and Boeing, are leaders in the middle and large size segments; two others, Bombardier and Embraer, are leaders in the small size segment. Competition is expected to intensify in the coming ten years, with new players in all major segments. Apart from the existing players, Russia and China (via SOEs) and Japan (via Mitsubishi) are also championing investment in the sector.

United Aircraft Corporation was itself created in 2006 as a conglomeration of previous disparate public and private sector actors in the Russian components of the former USSR aviation sector. Antonov has long-standing strategic and industrial ties to many of the companies subsumed within UAC. Russian Aviation News, 29 May 2012, “United Aircraft Corporation intends to manufacture 50 An-124 Ruslan and at least 150 An-70 aircraft by 2030” http://www.ruaviation.com/news/2012/5/29/1030/.



An update to Antonov’s current governance structures would better prepare the company to deal with this strategic shift, and would harmonise its governance with the model of governance being adopted by almost all of its likely competitors. The fastpaced nature of change in the sector will demand an ownership and management model that can respond dynamically to the pace of industry reform. In short, for Antonov to be a world-class company in this environment, it will be necessary for the company to move to a world-class system of corporate governance. The OECD Model provides a way forward In terms of the current study, the relevant questions are:

How can governance reforms be used as a lever to promote the sector and to attract the interest of foreign lenders, investors and partners? How would governance reforms provide the SOE with the necessary commercial freedom to engage in the technologically complex and dynamic aircraft industry? In the context of this greater commercial autonomy, what would be an appropriate ownership oversight regime to ensure efficiency and to prevent wasteful or abusive practices?

As these questions allude to, there are inherent tensions in promoting governance reform. On the one hand, it is clear that Antonov will require a large degree of autonomy in its financial and operational decision making to be able to successfully compete in the aircraft construction section. On the other hand, the strategic nature of the aircraft sector and the large financial investment in Antonov requires a commitment to structured and transparent governance and ownership oversight of their operations. These issues are not unique to Ukraine, and in fact most OECD member countries have had a great deal of experience in addressing such problems. The OECD Guidelines on Corporate Governance of State-Owned Enterprises represents the OECD

members consensus view of the main features of an ownership and governance model for SOEs that can address the enterprise’s needs for greater financial and operational flexibility, but retain appropriate oversight of financial performance and long-term strategy. The OECD model assumes four layers of decision-making:

First, the Government decides at the cabinet level the overall policy for state-owned enterprises (SOEs), including the objectives to be pursued by individual enterprises and its policy for the governance of state-owned enterprises. These documents may be approved by the Parliament and serve as a benchmark for accountability and evaluation of how well the government performs its ownership functions with respect to company objectives. Second, a centralised (or coordinating) ownership entity should be established that communicates the agreed financial and non-financial objectives to the SOEs, nominates board members (or oversees this process), votes the State’s shares (where relevant) and supervises SOE performance. To avoid ad-hoc or day-to-day intervention in SOEs, the enterprises must be given explicit mandates and objectives (commercial as well as non-commercial), then allowed sufficient autonomy to pursue them. The central ownership entity must be designed to ensure the transparency and accountability for the corporate objectives, and to prevent political intervention beyond these agreed objectives. Third, the boards of directors of individual SOEs are established and required to formulate (or approve) corporate strategies for complying with the financial and non-financial demands on their enterprises, and to monitor the executive management in its pursuit of these objectives. Fourth, the executive management of each SOE should be given sufficient autonomy and freedom from ad-hoc interventions by boards, ownership function and government, to operate efficiently, maximise earnings and

pursue corporate objectives in the public interest. Providing an intermediate board layer between the government and management helps to ensure continuity and avoid paralysis in the case of political uncertainty. Structure of the analysis Antonov’s governance will be assessed within the framework of the OECD Guidelines. These suggest an analysis arranged according to six separate themes: (i) Legal Framework (ii) State as Owner (iii) equitable treatment of shareholders (iv) role of stakeholders (v) transparency and disclosure and (vi) boards. In the current analysis, the equitable treatment of shareholders is not considered, given that Antonov is 100 per cent owned by Government. Similarly the issues related to stakeholder relations are not considered in great detail. While stakeholder relations are important, in terms of the immediate governance challenges facing Antonov, they are not of the highest order.


Chapter 2 Business description
Antonov’s current corporate structure
In analysing the governance arrangements of the SOE “Antonov”, there are in fact a number of separate legal entities that need to be considered. This includes the substantive entity responsible for aircraft design, known as SOE Antonov, as well as a separate serial production entity. In addition to these companies a new entity, the Antonov State Aircraft Manufacturing Concern (“Antonov Concern”) was created in 2010. This entity arose because of the historic legal and functional separation of design and serial manufacture. This separation has acted as an impediment to the joint sales, marketing and representation of the various design and manufacture companies involved in the development and production of Antonov aircraft. The Antonov Concern was established to fulfil this joint representation role. Figure 1 shows the key Ukraine state owned companies involved in the design, production and marketing of Antonov aircraft.


Figure 2.1. Antonov Group Structure
Antonov State Aircraft Manufacturing Concern

SOE Antonov - Design Bureau - P r o t o t y pe P r o d u c t i o n - F l i g h t te s t b a s e - Kyiv State Aircraft Plant

Kharkov State Aircraft Plant

No. 410 Aircraft Plant for Civil Aviation

In conducting this review, there was some debate as to the appropriate entity on which to base the analysis. The questionnaire responses, reflecting the views of the participants, were completed on the basis that the review was to solely focus on SOE Antonov, as the substantive design entity. It is arguable, however, that the review should encompass Antonov Concern and the remaining production and manufacturing companies: these entities form part of the complex of entities that the outside world would consider to be “Antonov” and, in terms of possible future governance structures, it is likely that some greater degree of integration is likely among the various entities currently in existence.5 Accordingly, this review considers the governance arrangements at both SOE Antonov and the Antonov Concern as they are fundamentally inter-linked and a joint resolution of their governance structures will be a pre-requisite of any reforms to the existing arrangements. The analysis seeks where possible to take a holistic view of the various components of the state-owned entities involved in the production of Antonov aircraft. However, within this framework, the review places a greater focus on the governance of SOE Antonov as the substantive and central component of the existing group of enterprises.


Indeed, SOE Antonov has already taken over the operations of a formerly independent production facility, the Kyiv State Aircraft Plant, with some expectation that they will also consolidate the operations of the No. 410 Aircraft Plant.


SOE forms in Ukraine
Ukraine’s SOE sector has a wide range of ownership and management schemes, which are described in Box 2.1.
Box 2.1 SOE forms in Ukraine The Commercial Code of Ukraine provides the basic legal framework for all corporations in Ukraine, including SOEs, and regulates commercial relations. According to the Commercial Code of Ukraine, SOEs are broadly split between state unitary enterprises and state corporate enterprises1: State Unitary Enterprises: This enterprise form is similar to that existing in Russia (although in Russia it is mainly used at the municipal government level). Unitary enterprises have no ownership rights to the assets they use in their operations, but are merely granted management rights. The underlying owner of the property (for instance, a government agency or Ministry) retains residual control over the use and disposal of the property directly, but does not interfere in the day-to-day operations of the enterprise. There are no shares as such in a unitary enterprise, with income being distributed back to the state according to a set proportion set by the Cabinet for each enterprise. There is no board of directors. The day-to-day operations of the company are under the sole control of a Director-General. Strategic direction is provided by management in the first instance, with major company decisions reviewed by the relevant ownership entity. State Corporate Enterprises: Corporate enterprises are typically organised as joint stock companies (although other corporate forms are possible). JSCs can be either fully state-owned corporations or those SOEs where the government retains dominant control over their business activities – that is, those joint-stock companies where the government’s share exceeds 50%. SOEs organised as joint stock companies can be either “open” (publicly traded) or “closed” (i.e. private). They may also include incorporated joint ventures, where the majority shareholder is the government. SOEs that are incorporated as joint-stock companies are regulated by the same legal framework for private sector enterprises listed on the stock exchange (e.g. with respect to transparency and disclosure, financial reporting, and the relationship with shareholders). In addition to the above, the Commercial Code of Ukraine establishes an organisational form called a Concern, which is particularly relevant in the context of Antonov, since one of the principal entities in the corporate structure has adopted this form. Concerns are a structure adopted for corporate groups. It can be used for both public and private companies. It is not a holding structure, but more in the nature of a cooperative or collegiate body. It allows companies to integrate their operations, without establishing a holding structure. Where a Concern is established, the members of the concern retain their full legal and operational autonomy. Concerns are typically used to combine industrial enterprises, scientific organisations, transport facilities, banks, trading enterprises, etc.


The large number of corporate forms allowable for SOEs in Ukraine is a reflection of historical development of the corporations law that has allowed existing forms (such as the Unitary enterprise) to remain, while introducing new forms that accord more closely to modern commercial practice. Within this legal context, the structure of the various entities within the Antonov group is described below.

SOE Antonov
The SOE Antonov is a product of Soviet era aircraft production. As noted above, the Soviet model involved separation of aircraft design from serial production. SOE Antonov is the successor to the Antonov Design Bureau, and is considered the main component of the Antonov business. In 2009, SOE Antonov amalgamated with one of the standalone serial production plants, the Kyiv State Aircraft Plant, which is responsible for production of one of Antonov’s key current production planes, the AN-148. The rationale for the amalgamation appears to have been both a response to the financial difficulties, which the Kyiv plant was in, but also to a desire to centralise the design and serial production of Antonov’s key commercial product within one entity. SOE Antonov is a unitary enterprise. It has a Director-General who is also the Designer General of the company, reflecting the design-driven approach of the enterprise. The Director-General is appointed under a performance contract and reports directly to the ownership agency; that is, there is no Board of Directors intermediating the relationship between the ownership agency and the management of the company. SOE Antonov does have a management board in place comprising the key executives of the company, who are all appointed by the Director-General. In terms of product development, Antonov does obtain advice through a Scientific and Technical Council, which includes the Director-General but is otherwise comprised of external experts. This Scientific and Technical Council only provides specific advice


on design, scientific and technology issues, and by no means serves the oversight functions of a typical board of directors.

Antonov state aircraft (“Antonov concern”)



The creation of the Antonov Concern was an apparent response to the difficulties that arise from the fact that the design of Antonov aircraft has historically been separated from serial production. The Concern was established to act as effectively a joint marketing / representative entity of the design bureau and the serial production companies. The companies that form the Concern are SOE Antonov, Kharkov Aircraft Manufacturing Company, and the No.410 Serial Production Plant. Because of its status as a Concern, (as opposed to a parent company) Antonov Concern is not allowed to interfere in the operations of the three entities, and these three companies retain their financial and operational independence. A “Management Board of Directors”, chaired by the DirectorGeneral of SOE Antonov, oversees the Concern. The other members of the management board are the Directors-General of the serial production companies and a representative of the ownership agency (currently unfilled). There is also a separate Director-General of the Concern, who is appointed by the Cabinet of Ukraine, and also sits on the management board.

Antonov manufacturing companies
Outside of SOE Antonov, there are two manufacturing companies that are aligned with the Antonov Concern: the Kharkov State Aircraft Plant, and the No. 410 Aircraft Plant for Civil Aviation. Both of these companies are also established as Unitary Enterprises. The Kharkov Plant is responsible for production of certain aircraft (An-74 and An-140) within the Antonov fleet, whereas the No.410 plant is focused on maintenance, repair and overhaul of Antonov customer planes.


It is important to note that these entities are legally and functionally separate from SOE Antonov, with their own management and capital. Their relationship to SOE Antonov is purely through the joint representation of the Antonov Concern. There does not seem to be any obligations on Antonov to utilise the serial production facilities to manufacture in their plants; the An-148, for instance, has been manufactured under license by the VASO plant in Russia owned by the UAC.


Chapter 3 Antonov and its legal environment
Disparate ownership forms
It is not uncommon in OECD countries that SOEs have a specific, and sometimes different, legal form from other companies. This may reflect specific objectives or societal considerations. Where there are unique legal forms, the SOEs often differ from the private limited liability companies through the respective authority and power of management and ministries; disclosure and other regulatory requirements; and the extent to which they are subjected to insolvency and bankruptcy procedures. Guideline (I.B) – “Governments should strive to simplify and streamline the operational practices and the legal form under which SOEs operate.” Where governments have reformed their SOE sector, the commonly agreed best practice is that SOEs should be given a legal personality, and governance structures, organised along broadly the same lines as in listed or large private sector enterprises. SOE forms should be based as much as possible on corporate law and avoid creating a specific legal form when this is not absolutely necessary for the objectives of the enterprise.


Using the same form as private sector entities has numerous advantages, some of which may be summarised as follows:

It helps to ensure a level playing field with the private sector, such as with respect to the application of general laws applying to the corporate sector; It provides a governance and legal framework that is familiar to private sector creditors, suppliers and customers, which in turn helps the enterprise raise capital and forge customer relationships; Transparency, in particular, can be strengthened by applying the same disclosure requirements, and accounting and auditing standards, as required of private sector companies; and By formalising the shareholding structure, it provides a mechanism to separate the ownership function of government from policy and regulatory functions.

Corporatisation of unitary enterprises has precedent In this context, there has long been a process in Ukraine for state unitary enterprises being transformed into state-owned corporate enterprises, organised as joint stock companies. As early as 1993 a Presidential Decree (and related Cabinet Resolution) established a “corporatisation” process for transformation of unitary enterprises into open shareholding companies. These processes are still relevant; more recently (March 13, 2012) amendments to the Law “On Managing State Owned Objects” has established that the Cabinet of Ministers of Ukraine shall define a new procedure for transformation of SOEs in state shareholding companies where 100 per cent of the shares are owned by the State. Some SOEs are defined as strategic Apart from the division between unitary and corporate enterprises, SOEs may also be classified as strategic enterprises, (and Antonov has been classified as “strategically important for

the security and economy of the state”). Where this is the case, the Cabinet of Ministers reserves direct powers of approval for key transactions, such as decisions on setting up, restructuring and liquidating operations by the SOE. In July 2012 the Ministry of Economic Policy and Trade addressed a number of ministries and state agencies with a Draft Resolution of the Cabinet of Ministers for approval. The Resolution Draft entitled “On amendments to the Resolution Draft of the Cabinet of Ministers of November 3, 2010 #999” contained the following proposal:

Establishing that the SOEs strategic for the state‘s economy and security encompass enterprises that meet one or a few of the following criteria: aviation, space-rocket industry.

Beyond the commercial code, there are numerous other special laws and other legal acts stipulating mandate and functions of the various organisations entitled to manage state assets and exercise monitoring, evaluation and oversight over the functioning of the SOE sector in Ukraine.

Challenges structure






Apart from a general policy preference for harmonising the corporate form of SOEs around a Joint Stock Company model, the continued use of the Unitary Enterprise model creates specific governance challenges according to OECD experiences. (While the analysis below is framed in terms of SOE Antonov, it applies equally to the serial production companies that are all organised as Unitary Enterprises.) From an operational perspective, the Unitary Enterprise structure, and its focus on management of assets, acts as an impediment to diversifying or extending their activities in new sectors and/or geographies. While these limits may be deliberate, for instance, to prevent misuse of public funds, or to control SOEs use of sensitive technologies, they also act as a significant constraint on Antonov’s capacity to dynamically deal with a changing business environment.

SOE Antonov lacks a recognised board of directors Guideline VI B. – “SOE boards should carry out the functions of monitoring of management and strategic guidance, subject to the objectives set by the government and the ownership entity.” The OECD Guidelines recommend that state-owned enterprises should have a board of directors with the necessary authority, competencies and objectivity to carry out their function of strategic guidance and monitoring of management. Under the OECD model, the board of an SOE is assigned a clear mandate and is ultimately responsible for the company’s performance. The board is responsible for acting in the best interests of the company and is held accountable to the owners, for instance, via agreed performance targets and assessments of its performance by the ownership entity. In the chain of command, the Board carries out their functions of monitoring of management and strategic guidance, subject to the objectives set by the government and the ownership entity. A well qualified board with a broad range of skills and experience would provide real strategic insight and guidance to the management of Antonov, across a broad range of areas including accessing financing; executing strategic alliances; and assessing and guiding Antonov in channelling production to its potential market strengths. The Board should have the power to appoint and remove the CEO. In Antonov’s case the lack of a Board means that management is concentrated in the hands of the Director General, together with a management board appointed by him. While the ownership unit monitors the Director-General’s performance (refer further below), there is no process within the company to offer any strategic guidance to the Director-General. The flow on effect of a concentration of management power in the hands of the Director-General is consequent increase in the level of oversight and intervention by Ministries and the ownership entity in the affairs of Antonov. In effect, the immediate layer of oversight normally assumed by the Board is subsumed within the ownership oversight role. In practice this

means that all of the important business and operational decisions are made through the relevant managers of the supervising ownership unit. The current structure is financially inflexible Guideline I. E - “The legal and regulatory framework should allow sufficient flexibility for adjustments in the capital structure of SOEs when this is necessary for achieving company objectives.” Antonov’s corporate structure significantly limits its financial capacity because of the unique approach to ownership of the underlying assets of Unitary Enterprises. As a unitary enterprise, Antonov has no share capital and does not have clear ownership of its underlying assets. There is limited capacity to restructure the capital of Antonov by way of equity, short of vesting on them additional assets. With respect to debt finance, SOE Antonov (like other SOEs in Ukraine) must get permission from state administration bodies (that is, the ownership unit and the Ministry of Finance) for any external borrowing. Unitary Enterprises are unable to collateralise their assets, which places quite significant constraints on the structure of debt finance instruments that Antonov can use, and the resulting cost. The net result is that it is very difficult for Antonov to obtain external finance, and the necessary involvement of the state in the approval process effectively ensures that any finance provided is not on market terms. Ban on joint ventures One sensitive issue that arose in the course of the review was the capacity of state-owned enterprises in Ukraine to enter into joint venture6 arrangements. Ukrainian SOEs are forbidden to establish joint ventures pursuant to the Decree of the Cabinet Ministers on Special Issues of State Property Management (31.12.1992). The original purpose of this legislation was the prevention of SOE management corruption, in response to

In this context, joint ventures include all forms of corporate partnership, including unincorporated joint ventures and incorporated joint venture companies.


numerous examples through the 1990s of insiders using partnerships with external parties or sham companies to strip assets out of SOEs. An outright ban on joint ventures and shareholding partnerships with other companies is clearly detrimental to the capacity of Antonov to compete on a meaningful basis with its international competitors. In fact, as noted above, Antonov has entered into some form of strategic partnership with the United Aircraft Corporation of Russia within the last two years, suggesting that there are means of structuring transactions to avoid the current prohibition. It was suggested to OECD’s mission team to Ukraine that one rationale for creating the Antonov Concern was because the prohibition on joint ventures did not apply to Concerns. If correct, the question it raises is whether the Concern structure has been adopted because it provides the most appropriate structure to achieve Antonov’s corporate aims, or has principally been adopted to overcome restrictions relating to joint ventures. If the latter, then a more stable long-term solution to the regulation of joint ventures may open up the potential of more stable group holding structures. In this context, there would appear to be some drawbacks of the Concern structure for achievement of Antonov’s objectives, which are discussed further in section 3.2.4 below. The unitary enterprise structure heightens risk While use of Unitary Enterprises was widespread throughout the former Soviet Union, as a form of corporate organisation it is not widely understood outside of the region. Potential financial or strategic partners are more likely to understand, and be comfortable with, the norms associated with a Joint Stock Company structure, particularly in relation to the legal powers of the board, and the control of the company over its assets. Guideline I.D. – “SOEs should not be exempt from the application of general laws and regulations. Stakeholders, including competitors, should have access to efficient redress and an even-handed ruling when they consider that their rights have been violated.”

For foreign investors and strategic partners, a key issue will be the extent to which they have access to efficient redress and an even-handed ruling when they consider that their rights have been violated. The Guidelines recommend that SOEs should be subject to the same general laws as private companies. In the case of Antonov, the Unitary Enterprise structure creates unnecessary potential risk, and more particularly perceptions of risk, around third parties’ ability to pursue legal remedies. In a substantive sense, the exemption of Antonov SOE (as a Unitary Enterprise) from insolvency and bankruptcy procedures creates significant perceptions of credit risk associated with the enforcement of company debts, when the reality is probably that the Government would stand behind the company in the event of financial stress. As an example, in 2009, Kyiv Serial Plant issued government-guaranteed bonds (later assumed by Antonov when it merged with Kyiv Serial Plant) of almost 600 million UAH or 75 million USD7. This was used to pay out outstanding accounts payable to banks and for the construction of new aircraft. Even with the government guarantee, the coupon rate of the bonds exceeded 11 per cent. Perhaps the real issue for potential partners is not necessarily the substance of the risk, but that the legal arrangements do not accord with private sector norms, and so become difficult to assess. In contrast, systems of legal redress offered through the Companies Law for a Joint Stock Company would be more transparent, predictable and understandable than for a Unitary Enterprises. The Antonov concern structure’s governance As an umbrella representative body, the Antonov Concern is not the primary focus of this paper, which is more concerned with the governance arrangements at the substantive companies. To the extent that it responds to the need for a more centralised representation of the component parts of the Antonov design and construction activities, then it would benefit from a more formalised oversight structure and greater control over the

Based on an average USD/UAH exchange rate for 2012 = ~8.0.


operations of the member companies. The accountability of the Concern for its performance will be frustrated by:

its lack of control over the operations of the constituent companies, and the consequent impact this will have on its capacity to control delivery of its mandate; the dual roles held by the Board members as directors of the Concern and also Directors-General of the constituent companies; the lack of non-executive members of the board of the Concern (noting that there is the potential for a representative of the ownership entity); and the unclear relationship that exists between the DirectorGeneral of the Antonov Concern, and the Director General of SOE Antonov (who is also Chair of the Concern).

If greater coordination of the design, manufacture and MRO activities of Antonov is required, then a holding company structure would provide a more stable and efficient arrangement. Not only would this provide a mechanism to address the governance issues above, but it would also provide a framework to generate operational efficiencies (such as through reduced contracting costs) by moving the enterprises within the single corporate structure.

Industrial policy framework
Guideline I.A - “There should be a clear separation between the state’s ownership function and other state functions that may influence the conditions for state-owned enterprises, particularly with regard to market regulation.” Because of its critical role in the development of the domestic aviation sector, Antonov has dual roles as a financially independent (profit making enterprise) but also as critical instrument for Ukraine industrial policy. This is not an uncommon situation for an SOE, and when these dual roles arise, they can sometimes be contradictory and can easily result in

confusion and conflicts of interest between industrial policy and the ownership functions of the state. This will particularly be the case if the responsibility for industrial policy and the ownership functions are vested with the same branch or sector ministries. Commonly accepted best practice is that where impositions are placed on an enterprise that are not commercial, this is best done by explicitly recognising these obligations and directly funding them from the public purse – for example, through performance contracts. This can be done independently of the ownership function and will facilitate a separation of industrial policy and ownership. This, in turn, will enhance the identification of the state as an owner and will favour transparency in defining objectives and monitoring performance.

Financial transfers government





There are a number of financial transfers between SOE Antonov and the Government that reflect competing government objectives. On its face, the structure of these transfers is not transparent, equitable or efficient, perhaps reflecting the competing objectives. The strategic nature of Antonov’s operations has meant that it has benefited from subsidy programmes to promote both research and development and the construction of planes. In contrast, as a profitable enterprise, it has also been required to pay dividends. Guideline I.C – “Any obligations and responsibilities that an SOE is required to undertake in terms of public services beyond the generally accepted norm should be clearly mandated by laws and related costs should be covered in a transparent manner.” As a general concept, it is preferable that any subsidies provided to Antonov should be targeted, measurable and adequate to address the non-commercial objectives of the company. They should relate to specific projects being undertaken and are referenced to the costs of those activities. The practice in the case of Antonov is a mix of subsidies, tax holidays and equity


injections to provide industry support, balanced against quite substantial dividend requirements. Direct Subsidies Antonov informed the OECD team that it has received one-time targeted funds from the Government to increase Antonov’s paid up capital. This funding is irregular and non-systemic. For instance, the annual accounts of Antonov for 2011 disclose the following in relation to the direct subsidies received: According to the Decree of the Cabinet of Ministers of Ukraine No. 871 dated 15 August 2011 On Approval of Procedure for Allocation of Budgetary Funds for Financing the Authorised Capital of State-Owned Enterprises in the Aircraft Industry, the Ministry of Industrial Policy made an additional contribution to the authorised capital of the Enterprise by crediting its settlement account with UAH 49.9 million (~USD 6 million). In terms of the recommendations of the OECD Guidelines, these subsidies are clearly mandated through the law and (being budget appropriations) are publicly disclosed. However, it would be preferable that the subsidies for programme implementation be directed to Antonov in the form of a direct revenue contribution rather than as a capital injection, to better reflect the nature of the payments in the accounts of both Antonov and the Government. Debt finance subsidies Guideline I.F – “SOEs should face competitive conditions regarding access to finance. Their relations with state-owned banks, state-owned financial institutions and other state-owned companies should be based on purely commercial grounds.” As noted above, the corporate bonds issued by Antonov benefit from an explicit government guarantee. Government guarantees of debt can, to some extent, frustrate the objectives of establishing SOEs as separate legal entities: the existence of government as debt guarantor confuses its role as equity owner, by changing the

Government’s risk preferences; and can lead to increased supervision of its operations by other areas of government concerned with the contingent risk of the guarantee. In any case, where guarantees are felt necessary (for instance, because of the lack of availability of finance without guarantees), it is preferable that some form of guarantee fee is paid to Government to reflect the risk. This has several positive benefits: it commercialises the guarantee arrangement and so potentially quarantines it from ownership issues; it prevents any inherent subsidies from accruing to the SOE (inflating their financial performance); and it should lead to more optimal capital structuring by introducing appropriate capital pricing signals. Apart from the debt guarantees, Antonov notes that part of the targeted funds for specific programmes was delivered via paying part of Antonov’s bond coupon yield. If, as appears, these subsidies relate to an industry-wide research and development programme, it is unclear why this should be structured as a bond yield discount, rather than as a direct subsidy. Taxation The taxation arrangements applying to Antonov and the other SOEs in the group are the same as those applying to the private sector. However, while Antonov is subject to the Ukrainian tax laws, the company benefits from a number of temporary tax holidays as follows:

It is exempt from the payment of income tax for a term of 10 years, from January, 2011, while manufacturing airplanes; It is exempt from the payment of VAT on imports until January, 2016 while it is importing commodities and products of R&D for the needs of aircraft industry; and It is exempt from the payment of land tax until January, 2016.


If, as seems the case, these taxation subsidies are designed to promote the competitiveness of Antonov in the manufacture of airplanes, then they could be better structured. The nature of income tax holidays are such that they are more valuable the greater the profits of Antonov – in other words, the less Antonov is in need of the subsidies, the greater the subsidies they receive. Dividends According to the latest financial statements, SOE Antonov was required to pay dividends of UAH 54 million (~ USD 8 million), but had operating cash flow of only UAH 23 million (~ USD 3 million). It was only able to make the dividend payment because of the receipt of the capital subsidy of UAH 49.9 million highlighted above. The receipt of dividends as cash and the payment of subsidies on capital account may have the benefit in terms of the presentation of the national budget. However, from a commercial and/or policy perspective such an arrangement has limited benefits. On the contrary, properly structured incentive based payments for particular industrial development activities should be structured on commercial terms, making the industrial development activities part of the profit-making activities of the enterprise. It could be the case that the quite substantial dividend obligations placed on Antonov has limited its capacity to undertake capital investment and may limit research and development. If so, the provision of tax holidays and interest subsidies should have simply been replaced with lower dividend requirements, providing the company with capacity to adequately invest for its future production and product innovation.

Regulatory issues
Procurement policy The application of procurement rules to SOEs is often a difficult issue for governments. The reasonable requirement for probity in government procurement, and sensitivity to promoting local content, often leads to more structured and lengthy procurement processes being applied to SOEs. On the other

hand, SOEs’ private sector counterparts are often not subject to this constraint and this can cause SOEs to be at a competitive disadvantage. The preference, expressed in the OECD Guidelines is that the procurement rules applying to SOEs should be the same as those applying to private sector companies. Legal as well as non-legal barriers to fair procurement should be removed. In Antonov’s case, the company made clear during the review that it considered the government procurement regime applying to its operations as incompatible with its operations which involves sourcing parts from specialist suppliers, often on a risk-sharing basis. For many components, the choice of supplier was limited and often based on multi-faceted criteria that often subordinated supply price to a secondary consideration. Antonov felt that the rigidity of the government procurement regime was not only overly time-consuming (reportedly taking between 4 and 8 months), but also placed it at a considerable disadvantage to international competitors who operate very sophisticated, bespoke procurement systems. For its part, in July 2011, the state amended its public procurement law with the intention of mitigating administrative inefficiencies. Under certain circumstances, the amendment allows state-owned companies to bypass the tender process and purchase goods or services through the “procurement from a single supplier” procedure.8 Antonov was not included under the scope of the amendment and continued to apply previous tender procedures. However, according to the Law of Ukraine #4913-VI of June 7, 2012 ’’On amendments to the Law of Ukraine ’’On State Procurement’’’’ Antonov SOE has also now been waived from tender procedures. The implementation of this law should require Antonov to develop internal procedures to ensure that there is a high degree of transparency and accountability in their procurement arrangements.


The ‘single supplier’ clause has been sharply criticised by the EU as a mechanism that fuels corruption and that is out of synch with EU criteria.


Chapter 4 The ownership structure
Apart from potential reforms to the legal structure of Antonov, the main focus of any reform to Antonov’s corporate environment should be to examine how the formal governance arrangements can be improved to ensure that:

Antonov can obtain the operational flexibility and autonomy it will need to conduct its operations in what is a dynamic market; The government is well placed to pursue the strategic, industrial and financial aims it has for Antonov; and There are suitable oversight mechanisms in place to ensure that the company is performing according to these objectives.

As noted above, the commonly accepted best practice is that this is most efficiently achieved through a layered approach to governance involving a strong ownership framework, structured ownership oversight and a well composed board of directors with a strong mandate and authority coupled with executive management with sufficient autonomy to operate efficiently.


Enhancing the ownership policy for SOEs and for Antonov
An ownership policy applying to all SOEs Guideline II.A - “The government should develop and issue an ownership policy that defines the overall objectives of state ownership, the state’s role in the corporate governance of SOEs, and how it will implement its ownership policy.” In the case of Ukraine, the key elements of an ownership framework exist, although probably not unified in a consolidated policy document. For instance, there are policies and legislation dealing with: the management of state owned assets; corporatisation; privatisation; classification of enterprises as strategic; and the remuneration of company officers. The Ukraine law “On Management of State Assets” defines the broad range of responsibilities in governing the SOE sector, including policy development, drafting of legislation, selection of governing bodies and delegation (to them) of the functions in SOE management, monitoring and evaluation, as well as oversight. A consolidation of these elements into a unified policy would allow Ukraine to be more specific about its objectives for the stateowned sector as a whole. The Guidelines note that in order for governments to clearly position themselves as an owner, they should clarify and prioritise their objectives. Setting objectives may include trade-offs, for example between shareholder value, public service and strategic priorities. The ownership policy will ideally go further than specifying the main objectives as an owner; also indicating its priorities and clarifying how inherent trade-offs shall be handled. In the Ukraine context, an ownership policy would also provide a mechanism to more comprehensively examine how the wide range of corporate forms that exist might be rationalised or consolidated through greater corporatisation and privatisation.


Setting individual objectives for Antonov While a consolidated ownership policy may not exist, per se, Ukraine still possesses the capacity through its existing policy framework to have the Cabinet set out high-level objectives for Antonov. In fact, in Ukraine, coming from a history of highly planned state ownership, formal ownership objectives represents the default option. Industry planning is prevalent and SOEs represent a key tool of government in promoting their industrywide policies. In the case of Antonov a ten-year strategy (to 2020) has been approved by Cabinet for the Aviation sector that provides the broad basis for establishing core objectives for Antonov at the ownership unit level.

Improving the centralised (or coordinating) ownership entity
Guideline II. D. – “The exercise of ownership rights should be clearly identified within the state administration. This may be facilitated by setting up a coordinating entity or more appropriately, by the centralisation of the ownership function.” When reforming their SOE sector, OECD jurisdictions have shown a preference for centralising the ownership function or, at the least, coordinating the exercise of ownership rights through a central agency. Centralisation helps in clarifying the ownership policy and its orientation, and ensures its more consistent implementation. Centralisation also facilitates the accumulation of relevant competencies by organising “pools” of experts on key matters, such as financial reporting or board nomination. Finally, centralisation is also an effective way to clearly separate the exercise of ownership functions from other activities performed by the state, particularly market regulation and industrial policy. The organisational structure of the government’s ownership entity should be designed to explicitly identify the mechanisms and procedures for channelling any political input from the government or the parliament in the governance of SOEs. The mechanisms and procedures should be rules based, with a view to

minimise the risk of paralysis of the ownership function and efficient management of enterprises. Ukraine has some features identifiable with commonly agreed good practices in ownership oversight. Ownership oversight is partly centralised although there are still numerous ownership bodies in place. In accordance with the Commercial Code, all SOEs are formally governed by the Cabinet. However, in practice the Cabinet delegates its powers and functions to relevant Ministries. The most common functions exercised by these delegated ownership units in Ukraine are related to the development of sector policy, appointment of company management, review and approval of company financial plans, and evaluation of company performance. The distribution of mandates and functions between different government bodies means there is no single government entity with full oversight of the SOE sector and oversight responsibilities are spread across a number of government ministries and agencies. The State Property Fund (SPF) manages all state enterprises undergoing privatisation and also has some responsibility to oversee enterprises that have been corporatised. Key strategic firms remain under direct responsibility of the Cabinet of Ministers. Other state-owned enterprises (primarily unitary SOEs) are under the control of ministries and other bodies, which can grant SOE status, reorganise and liquidate state property, and appoint the management independently.

Reducing ownership entity involvement in day-to-day management
Guideline II.B. “The government should not be involved in the day-to-day management of SOEs and allow them full operational autonomy to achieve their defined objectives.” In the case of Antonov, all of the entities within the group are supervised by a newly created entity called the State Agency for Management of the State Corporate Rights and Asset Management (State Agency for Corporate Rights). The State Agency for Corporate Rights is subordinated directly to the Cabinet of

Ministers as a central executive body. The State Agency was created after the dissolution of the Ministry for Industrial Policy and has assumed the ownership rights from this Ministry. It manages the ownership of 346 separate SOEs. The biggest governance issue facing SOEs, and Antonov in particular, is the extent to which the company is given the discretion to function. According to discussions with the State Agency for Corporate Rights it is significantly involved in the operations of Antonov, although it was clear to stress that its functions in terms of management were limited to making recommendations: it was clear that it could not directly interfere in the operations of Antonov as a matter of law. The State Agency saw its main tasks as:

Supervising management, both in terms of their operations and the financial activities; Appointing the Director-General (under a performancebased contract); Monitoring day-to-day performance; Facilitating financing for the enterprise, including approving any loans (in collaboration with the Ministry of Finance).

 

This is a significantly more interventionist approach to ownership supervision than would be recommended by the OECD Guidelines, which are predicated on ownership units appointing qualified boards to SOEs and letting these boards exercise their responsibilities and respecting their independence. In the absence of a recognised external board, it is probably the case that the ownership unit has felt it necessary to take a more hands-on role to oversight than would normally be the case. (One member of the State Agency for Corporate Rights described their role as analogous to the board of the company). While the ownership role of the State Agency for Corporate Rights is a fundamental element of Antonov’s governance, it is no substitute for a separate board. As noted earlier, there would be significant advantages in terms of the level and quality of overview that a

strong and experienced board would bring to the governance of Antonov.

Exercise of key ownership responsibilities should be strengthened
Guideline II.F. – “The state as an active owner should exercise its ownership rights according to the legal structure of each company. Its prime responsibilities include:

Being represented at the general shareholders meetings and voting shares. Establishing well-structured and transparent board nomination processes and actively participating in the nomination of all SOEs’ boards. Setting up reporting systems allowing regular monitoring and assessment of SOE performance. Ensuring that remuneration schemes for SOE board members foster the long-term interest of the company and can attract and motivate qualified professionals.”

The approach of the OECD Guidelines is that, while an autonomous and independent board of directors will facilitate better SOE performance, the ownership unit needs to take a very active role in all key ownership functions, in order for it to provide the necessary discipline over the board’s performance. The Unitary enterprise structure at Antonov companies limits the capacity of the ownership unit to exercise these ownership functions. In terms of the OECD Guidelines, for instance, the voting of shares in Antonov, and the appointment of a board of directors is not relevant in the context of the current structure. These will be challenges for the ownership unit to face should Antonov’s structure (and ownership) be modified.


While the State Agency for Corporate Rights does undertake performance monitoring and establishes the remuneration structure for the Director-General, these roles would also have to be modified were Antonov to move to a JSC structure, in order to accommodate a governance model with a more autonomous Board. Management appointment The State Agency for Corporate Rights is legally empowered to select and appoint SOE managers for the entities that they supervise, including Antonov. In practice, the appointments of the Director-General positions are approved by Cabinet, with the contract entered into formally by the State Agency for Corporate Rights. Setting remuneration policy as part of the managers’ contracts is an important component of the ownership agency’s role, and under Ukrainian legislation, ownership units are empowered to grant remuneration packages for the managers for their contribution in SOEs’ performance. The contract executed for the Director-General of SOE Antonov is based on achievement of certain financial and non-financial parameters; these parameters then form the basis of the ongoing monitoring of the performance of the enterprise. If the structure of Antonov moved to one where a supervisory board of directors was appointed, it would be strongly preferable that the responsibility for negotiation of the Director-General’s employment contract was formally ceded to the board. Performance monitoring of SOEs in Ukraine The OECD Guidelines recommend that in order for the coordinating or ownership entity to make informed decisions on key corporate matters, they should ensure that they receive all necessary and relevant information in a timely manner. They should also establish a means that make it possible to monitor SOEs’ activity and performance on a continuous basis.


In Ukraine, a formalised process of performance monitoring is in place. In Antonov’s case, the oversight is based on an agreed performance contract between the Agency and the CEO and sets out the key performance parameters for the CEO to achieve. The relevant Minister approves the performance contract, but it is executed by the Agency. Across all SOEs, the ownership units then submit consolidated financial plans of the SOEs (in their respective portfolios) and information on their implementation to the Ministry of Economy on a quarterly basis. The Ministry of Economy reviews these documents and in turn, submits to the Cabinet, a consolidated report together with the proposals to improve SOE operational performance. The Ministry of Economy also submits to the Ministry of Finance a consolidated financial plan for SOE, highlighting the impact of the SOE performance on the state budget. Save for the fact that the performance monitoring regime is based on targets set in the Director-General’s employment contract, the structure of the existing performance monitoring regime provides a solid basis to progress the ownership unit’s obligations to continuous oversight. If Antonov were to move to a JSC structure, the ownership unit should enter into a performance agreement or mandate with the board of directors setting out similar performance targets to those currently contained in the Director-General’s employment contract. This would then provide the basis for ongoing monitoring and be consistent with the government-wide monitoring carried out by the Ministries of Economy and Finance.


Chapter 5 Transparency and disclosure
As a general comment, the level of disclosure by SOEs in Ukraine is poor compared to international best practice. Ukrainian law does not stipulate making public the annual reports of SOEs, and SOE accounts and other company information may be treated as a state secret. The Ukrainian Constitution establishes the basic framework for public access to information. Information is first generally classified either as open or limited access. Information determined to be of limited access is further designated as confidential or of significant national importance (i.e. a state secret) that is subsequently governed by the Law on State Secrets. As SOEs are public entities, they are subject to the laws on information and state secrets. This situation is exacerbated in Antonov, because of its involvement in the production of military aircraft, increasing the likelihood that information about their operations will be viewed as secret. Within this framework, it is unlikely that SOEs will have any significant incentives to improve their transparency, or that government will seek to promote greater disclosure by SOEs. While there is a reportedly strong focus on ensuring that the SOEs are complying with legal, tax and budgetary requirements, there is less focus on ensuring transparency to external parties. As such, Antonov’s disclosure to regulatory bodies within Government seems reasonably rigorous, but its public disclosures are far more selective. The OECD Guidelines take an alternative view of disclosure that perceives transparency in SOE operations as a tool of government to promote accountability and discipline over SOE performance against agreed benchmarks. In addition, private and

foreign entities are likely to demand high levels of transparency. Transparency implies that the decision-making processes in and above Antonov are carried out in a predictable fashion and that, in case of changes, all affected parties are consulted with beforehand. Transparency derives from the fact that government cannot intervene in the day-to-day operations of such enterprises, but must rely on predetermined corporate objectives and instructions. The financial disclosure and auditing requirements imposed on such companies are then designed to stamp out any irregular practices.

Annual audited reports
Guideline V.C – “SOEs, especially large ones, should be subject to an annual independent external audit based on international standards.” In its questionnaire response, Antonov advised that an independent auditor audits its accounts “in compliance with the effective law”. The most recent financial statements of Antonov list the auditor as a Ukrainian audit firm registered with the national Audit Bureau. It is noted that the audit was conducted in accordance with the International Audit Standards approved by the Audit Chamber of Ukraine. These standards require the applicable code of ethics to be observed and the audit to be planned and carried out in such a manner that provides reasonable confidence in the absence of any material misstatement in the financial statements. The OECD Guidelines recommend that adequate procedures should be developed for the selection of external auditors and it is crucial that they are independent from the management. In most countries usually such a task would usually be performed by either the shareholders at the General Meeting, the ownership unit, or if at the SOE level by the Board or Audit Committee. It is not clear from the discussions and questionnaire responses how the audit firm is currently chosen (that is, whether by management or the ownership unit or other body) or whether there are any clear criteria for ensuring the independence and quality of the audit firm.

Financial reporting standards
Guideline V.D: “SOEs should be subject to the same high quality accounting and auditing standards as listed companies. Large or listed SOEs should disclose financial and non-financial information according to high quality internationally recognised standards.” The financial statements of Antonov are based on the Ukrainian National Accounting Standards as specified in the particular Law of Ukraine on Accounting and Financial Statements and other statutes governing the accounting and financial reporting procedure in Ukraine. The national standards were recently upgraded through the amendment to the Law on Accounting and Financial Reporting, so that they are now required to “not contradict” International Accounting Standards. Discussions with market participants in Ukraine suggested that differences can still be substantial, particularly with regard to the timing of revenues. Part of this can be explained by the fact that accounting policies are often adopted to satisfy the taxation accounting requirements and this can mean that revenues are recognised earlier than might be the case under International Accounting Standards. It is also noted that the financial statements provided by Antonov contain less detailed disclosure than would be expected under IFRS. For instance, details of related party transactions are not disclosed, and (given the concerns regarding joint ventures and asset stripping), more detailed and rigorous disclosure should be considered a threshold requirement, in order for the owners and regulators of Antonov to provide it with some improved corporate flexibility. Finally, it is not clear whether the financial statements of Antonov are publicly released. According to the State Agency on Corporate Rights, the financial statements were not publicly disclosed, whereas according to the questionnaire response from Antonov they were publicly released. The OECD Guidelines make clear that SOEs should be as transparent as publicly traded

corporations. Regardless of their legal status and even if they are not listed, all SOEs should report according to best practice accounting and auditing standards.

Internal risk control
Guideline V.B: “SOEs should develop efficient internal audit procedures and establish an internal audit function.” Guideline V.E.3: “SOEs should disclose… any material risk factors and measures taken to manage such risks.” Internal auditing is an independent, objective assurance and consulting activity designed to add value and improve an organisation’s operations. It helps an organisation accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control and governance processes. The capacity of Antonov to have an effective system of internal control is significantly constrained by its lack of a board of directors. OECD countries have found that, for maximum effectiveness, internal auditors should work on behalf of, and report directly to the supervisory board, and preferably to an audit committee established by the board. Internal auditors should have unrestricted access to the Chair and members of the entire board and its audit committee. Their reporting is important for the board’s ability to evaluate actual company operations and performance. It is also recommended as good practice that an internal control report is included in the financial statements, describing the internal control structure and procedures for financial reporting. In the financial statements of Antonov, the audit report notes that an internal control system was in place but did not express an opinion on its efficiency. Nevertheless, the auditors did issue a qualified audit opinion, on the basis that the recording of assets in the accounts did not match with the physical asset checks. This might reflect issues with the quality of the internal control system and just reinforces the gains that could be achieved by

having a more management.






Separation of military and civilian branches
The Sector Competitiveness Report noted that the governance of the civilian and military aircraft sectors in Ukraine is currently unified. Because the military aerospace sector is closely protected and controlled, the same level of protection and control is being applied to the civilian aircraft sector. To facilitate a more appropriate level of control over the civilian aircraft division, the report recommended developing a governance system with separate branches for the military and civilian sectors. In practical terms, the constraint to such an approach is the potential for single aircraft platforms to be used for both civilian and military purposes. This can happen in one of two ways: either conversion as post-production modifications; or integrated amendments during the production process. In either case, the integration of production would not frustrate the capacity of Antonov to separate the military and civilian components of their operations into separate legal and functional enterprises, under joint ownership. In the case of both Boeing and Airbus, similar issues have been successfully addressed, with both companies operating Military divisions as separate legal entities, but still incorporated and reporting within the overall holding structure of the respective companies. From a transparency and disclosure perspective there are three separate sets of issues that need to be addressed:

the allocation of costs between the military and civilian units – here the simplest approach is for each dual use aircraft, to nominate one of the units as the principal owner of the design. This aircraft owner would then sell individual hulls to the other unit using internal transfer pricing. (For instance, in the case of an AN-148 converted to military use, the owner would be the civilian unit; conversely, for AN-70’s converted to civilian use, the owner would be the military division);

the disclosure of financial information – it is worth noting that in the case of Boeing, military results are reported on a segment basis (refer Box). However, if there is a greater sensitivity to releasing the financial metrics of the military wing in Antonov’s case, it would be possible to excise these results from any external reporting, particularly if the units have been financially separated according to the first point, above; and the disclosure of corporate objectives and strategy – again, by establishing a separate legal entity to hold any sensitive military operations, any sensitive corporate information regarding military development could be quarantined from the commercial operations on a straightforward basis.


Box 5.1 Boeing's approach to splitting civilian and military activities Boeing operates its civilian and military divisions separately, notwithstanding that some of the military aircraft are built off civilian platforms (e.g. P8 Poseidon; Boeing 737 AEW&C). Boeing Military is a segment within the Defence, Space and Security Division. This Division also housed the Global Services & Support segment providing global after-sales repairs, maintenance and overhaul services to Boeings military aircraft. While Boeing Military is operated as a separate business unit, its financial results are consolidated into Boeing’s financial results, and reported on a segment basis, as per below.
(Dollars in millions) Years ended December 31 Revenues Commercial Airplanes Boeing Defence, Space & Security: Boeing Military Aircraft Network & Space Systems Global Services & Support Total Defence, Space & Security Boeing Capital Corporation Other segment Unallocated items and eliminations Total revenues Earnings/(loss) from operations: Commercial Airplanes Boeing Defence, Space & Security: Boeing Military Aircraft Network & Space Systems Global Services & Support Total Defence, Space & Security Boeing Capital Corporation Other segment Unallocated items and eliminations Earnings from operations

2011 36,171 14,947 8,673 8,356 31,976 532 138 (82) 68,735 3,495 1,526 690 942 3,158 125 54 (988) 5,844

2010 31,834 14,238 9,455 8,250 31,943 639 138 (248) 64,306 3,006 1,250 711 914 2,875 152 (327) (735) 4,971

2009 34,051 14,304 10,877 8,480 33,661 660 165 (256) 68,281 (583) 1,527 839 932 3,298 126 (151) (594) 2,096


Chapter 6 Recommendations for reform
Antonov is a significant and profitable industrial enterprise competing in a technically sophisticated and dynamic market. Its continued success will depend in part on having a system of governance that is as efficient and effective as its international peers. Across a number of criteria, the current system of management and oversight should be upgraded to reflect modern corporate governance, ownership and disclosure functions and practices. The most pressing reform is to institute a legal form that is equivalent to private sector norms and is ideally standardised and consistent across other SOEs in Ukraine. Instituting a more standard corporate form would enable the government to appoint a supervisory board of directors to provide both oversight and strategic direction to Antonov in the executions of its business objectives. For the board to have substance, and provide the requisite degree of oversight and guidance, its composition must be carefully balanced. Additionally, the legal framework should delineate the ownership roles and lines of accountability (e.g., oversight, monitoring, etc.) A strong legal framework would involve Antonov developing clear objectives in agreement with the ownership entity (including both commercial and industry/public policy objectives). This in turn would enable the development of a strong performance measurement framework assessments and support high levels of transparency.


In order to create an equitable and competitive business environment, the framework should separate the functions of state ownership and formulation of industrial policy. Government financial support to Antonov should be provided on an explicit and transparent basis. Finally, access to equity capital and debt financing should be on competitive rather than preferential terms.

Legal form
It is recommended that the operations of the Concern and the three operational companies be transferred to one holding company (“Antonov Holding”), directly owned by the Agency, in the form of a JSC, with an appropriate Board and a CEO. There is a strong rationale for coordinated ownership of the companies. Antonov Concern has been created to serve as a unifying entity for the subsidiary companies, but is hampered in its role by its very narrow mandate and its lack of influence over the operations of the subsidiaries. The three operating companies have common government ownership whose operations are intrinsically linked and would benefit from formal integration. The holding company structure will allow for that greater coordination and will ensure that financing and partnership arrangements are conducted at a group level. The net result is that all of the Ukraine state-owned activities related to the design, construction, maintenance, repair and overhaul of Antonov airplanes will be brought within a single governance structure. The three operative companies should likewise be restructured from Unitary Enterprises to joint stock companies incorporated under the Ukrainian companies law. Each of the subsidiary companies should have its own board of directors and CEO. It is common in OECD jurisdictions, where SOE subsidies operate mostly in the same line of business as the parent company, that the boards of subsidiary companies are internal boards; that is, board members are usually holding company executives, with external directors limited to 1 or 2 independent directors. If the subsidiaries are more specialised, there may be a greater need to secure diversity and independence for these boards.

The creation of a holding company structure would also facilitate the separation of military and civilian aircraft manufacture into separate legal entities within the structure. This would allow for different levels of disclosure to be adopted for the military enterprises, while still allowing for the synergies (and economies of scale) that would accrue from combining production within the same holding structure. The holding company should be established with an Articles of Association (or equivalent constituent documents) to provide wide capacity to enter into markets and products covering the full scope of the aircraft manufacturing industry. The new holding company should have the flexibility to create subsidiaries and organise their operating companies as they see appropriate. The new holding company, and the subsidiary companies, should also have a capacity to enter into joint ventures and partnerships with local and international partners, and to take equity positions in existing or start-up ventures. In the longer term, all Antonov companies should be free to cooperate with domestic and foreign partners at arm’s length basis. However, given the sensitivity of this issue, in the short term a number of constraints could be placed on this capacity, to provide sufficient control over the strategic operations of Antonov. For instance, partnerships and acquisitions could be subject to ultimate approval of either the ownership entity or the Cabinet, subject to materiality thresholds. The financial results of any partnership or joint venture arrangements could also be subject to stricter and more frequent disclosure. As a joint stock company, the holding company should have the capacity to borrow in its own right and to collateralise its assets. Any constraints or approval processes for borrowing should be agreed as part of a broad framework on the capital requirements of the company, and set out in the agreed ownership plans.


Regulatory framework, industry assistance and state transfers
Procurement policy reform to be monitored During the course of the review, Antonov made a reasonable case for the procurement policies applying to them to be streamlined to allow for greater operational flexibility. In response, a new Law was passed on June 7, 2012 ’’On amendments to the Law of Ukraine ’’On State Procurement’’’’ that exempts Antonov from undergoing tender procedures. Implementation of this reform and streamlining of procurement law should strike a balance between preventing irregular practices and increasing process efficiency. Because of this, the recent reforms liberalising the procurement arrangements should be accompanied by relevant internal reforms within Antonov to ensure probity in the procurement framework. In particular:

If Antonov Holding is transformed into a joint stock company with a board of directors, the board should consider establishing a Procurement Committee, or alternatively, assigning probity reviews of procurement to the Board’s Audit Committee. This committee would oversee the Antonov procurement system, to establish confidence in the capacity of the board to control transactions where there is a potential for conflicts of interests; Secondly, all of the group companies should adopt more detailed reporting of related party transactions, consistent with the disclosure requirements of IFRS. This would increase the transparency around potentially risky procurement transactions.

Assistance payments and transfers to and from Antonov could be rationalised As highlighted above, there is a complicated system of transfers to Antonov for industry assistance, involving tax holidays, direct payments, equity injections and debt subsidies. The Government is also guaranteeing Antonov’s bonds. In the

other direction, the company is paying mandated dividends to the government. From a governance perspective, what is at issue is that key elements of the fiscal relationship between Antonov and the government appear to be both discretionary and contradictory. The sense from discussions with Antonov management is that the transfers both to and from Antonov are constantly modified either through Cabinet decisions, or ownership directives. These arrangements are overly complex and some rationalisation of net transfers to and from the company should be achievable. The tax holidays, debt subsidies and equity injections all appear poorly structured as forms of industry assistance and could be consolidated into explicit cash transfers if necessary. Dividend and interest subsidy arrangements should ideally be considered in the context of the overall capital structure of the company. The Unitary Enterprise structure is fundamentally at the root of this problem: the Ministry of Finance decides directly on the borrowing by Antonov since the companies are organised as unitary enterprises. Consequently borrowing by Antonov incurs liabilities by the State. Reorganisation of the companies as joint stock companies within a holding structure should be accompanied by a reform to these arrangements. Debt guarantees by the state should be stopped for future financing transaction and be allowed to be phased out for existing borrowings.

Antonov ownership structure The organisational structure should be straightforward to ensure the government’s ownership entity can effectively communicate and oversee the implementation of the agreed company objectives and the SOE governance policy in accordance with relevant laws and regulations. Multiple layers of decisionmaking should be avoided.


It would be open to the Ukraine government to move toward a fully centralised or coordinated form of SOE ownership oversight, and the OECD Guidelines recommend that this should be the medium-term policy objective. However, in the absence of substantial movement toward that objective in the short term, then retaining the ownership oversight in the State Agency for Corporate Rights would appear the most sensible option:

The State Agency for Corporate Rights has a substantial portfolio of SOEs under its oversight and is a specialised SOE ownership agency; The Agency reports directly to the Cabinet and has a systematic process for monitoring and reporting SOE performance; and The Agency has a strong understanding of the Antonov business, and strong relationships with the existing management.

In parallel with the move to a joint stock company structure, the nature of the Agency’s role and its key functions will need to evolve. The Agency should relinquish its right to appoint the CEO, with this power transferred to the Board. Rather than negotiating a performance contract with the Director-General, the Agency should instead develop a high-level ownership expectations statement for the Antonov Board setting out government priorities and long-range strategic objectives for the company (to be agreed across government as necessary, and with the Board). Within the framework of that document, the Agency would still develop shorter term performance targets aligned with this objective statement. These performance targets would form the basis of the ownership agency’s monitoring regime. Ideally, the Agency should have primary responsibility for establishing criteria for identifying candidates for the Board and ensuring their professional competence, subject to Ministerial approval as necessary.


Government-wide ownership policy As a medium-term project, the Government should consider developing a state ownership policy covering all SOEs, underpinned by a strong corporate governance framework. This framework would buttress the specific reforms being undertaken at Antonov. The policy would clarify the ownership rights within the central administration and set policy limits on the involvement of government in the daily management of SOE operations. A consistent and effective ownership policy would provide the general public and the private sector with a clear understanding of the state’s objectives as an owner as well as its long-term commitments and efforts to ensure that the ownership function is fulfilled in an efficient and accountable manner. The ownership policy could also clearly articulate the mechanisms through which the performance of SOEs will be monitored, and should draw on the existing extensive performance monitoring arrangements in place.

Transparency / Disclosure
Disclosure at the company level To ensure appropriate disclosure and transparency at the SOE level, the state as an owner should first develop a coherent disclosure policy for its portfolio companies. This will serve as an important communication tool with the Parliament and the public at large and cover both valuations of assets and performance variables. This policy should identify what information should be disclosed; how and to whom the information should be disclosed; and the procedures for ensuring the quality of the information. Developing a disclosure policy should start with an inventory of the requirements of the existing legal and regulatory framework as well as actual practice at the SOE level. This will allow an assessment of actual implementation and weaknesses in the overall framework. On the basis of this analysis, the existing framework should then be modified, adapted or complemented to cover all necessary requirements as recommended in the OECD Guidelines.

In reviewing the disclosure framework, the ownership entity should focus on material information, i.e. whose omission or misstatement could have an influence on the economic decisions taken by users of this information. In particular, the ownership entity should ensure that the level of public disclosure would be sufficient for existing and potential partners, suppliers and customers of Antonov. Transitioning the Antonov entities to a standard joint stock company structure would achieve many of the desired goals on transparency and disclosure, since the Antonov entities would be under the same legislation as privately owned companies. For instance, the Securities and Stock Market Law requires all jointstock companies, in addition to disclosures based on national accounting standards, to disclose information on their operations, which should be based on International Accounting Standards. At a minimum, it would be expected that the level of public disclosure would comprise the following:

That the current financial statements be publicly disclosed and be made available in electronic form on the company website. Consideration should also be given to releasing past year financial statements to allow trends in financial performance to be assessed. The practice in many countries is to ensure that SOEs that operate in an international environment provide English language versions of their financial statements. Antonov should also give strong consideration to moving to such a practice; Reputable external auditors continue to be appointed. We note that Antonov’s accounts are currently audited by a local Ukraine accounting firm. The firm is registered with the Ukraine Audit Bureau and conducts the audit according to Ukrainian Auditing Standards. While not specifically advocating a reliance on foreign audit firms, it is essential that investors be assured that auditing adheres to the highest international standards.


On the basis that a Board of Directors is established, it is recommended that an Audit Committee of the Board would also be established, including at least one member with specific expertise in accounting and audit practices. This committee should oversee the company’s relationship with the external auditors, manage the appointment and engagement process (subject to any requirements for shareholder approval), and take responsibility for review of procurement unless or until a separate procurement committee is established for this purpose; The Holding Company should develop a plan to harmonise their accounting to International Accounting Standards (IFRS) when they are established as a JSC company (or earlier if this is required by the Corporations Law). The adoption of IFRS standards is a complicated process that will require a period of transition towards full implementation and will require some training...

Disclosure at the ownership level As noted above, reform of the ownership arrangements should ideally include a document that articulates the national policy for governance of SOEs. The document shall define the government’s role and values as an owner and guide its actions with respect to exercising its ownership functions. The document could be agreed by Parliament or the Cabinet and define where the powers of ownership (e.g. board nomination, etc.) are vested. The policy for governance of state-owned enterprises should also be used as a benchmark for accountability and evaluation of how well the government performs its ownership functions with respect to politically agreed objectives. The policy for governance of stateowned enterprises would also serve as an important tool for establishing credibility with domestic as well as foreign market participants. For the ownership of Antonov, the Government already has a public strategy setting out the long-term objectives for the civil aviation sector. Allied to this, the company-specific objectives for Antonov could be clearly set out and form part of the agreement

with the Board on the operations of the company (refer further below). In the case of such a document being developed we would also recommend that these objectives issued by the Agency on Property Rights to be publicly disclosed (subject again to any commercial-in-confidence carve-outs).

Board of directors
The establishment of Antonov companies as joint stock companies would involve the appointment of a board of directors for the holding company and the subsidiary companies. The board of Antonov should be composed so that it can exercise objective and independent judgement. Good practice would call for the Chair to be separate from the CEO. It will be important that Antonov Holding has a strong board that can act in the interest of the company and effectively monitor management without undue political interference. It will also be necessary to ensure the competency of the boards. It is also necessary to allow them clear and full responsibility for their functions and ensure that they act with integrity. A central prerequisite in empowering SOE boards is to structure them so that they can effectively monitor senior management and take strategic decisions. In the case of Antonov, this would mean a majority of independent directors including consideration of candidates with private sector management and board experience, as well as aviation-sector specific knowledge. The Guidelines offer no specific guidance on the size of SOE Boards, although they note that in a number of countries, SOE boards tend to be too large, lack business perspective and independent judgment. They can also include an excessive number of members from the state administration. In structuring the boards for Antonov Holding and the subsidiary companies, the ownership unit should seek relatively small boards. In a growing number of OECD jurisdictions it is common for boards to contain between 5 and 8 members. For the subsidiary companies, the number of board members could be even smaller with as little overlap as possible with the main board.

It is likely that the Board would benefit greatly from the expertise of members drawn from outside of Government, and potentially from overseas representatives (noting that language barriers may prevent the practical use of overseas board members). Ministers and their associates should not serve on the board. A systematic, open and transparent process should be adopted for appointing the board members. This will help ensure that any private sector representatives are chosen on merit and not representative of particular interests. All nominees to the board should be required to disclose any financial or personal details that may constitute a conflict of interest in the exercise of their responsibilities. The board should develop policies to ensure that board members recuse themselves from decisions in which such conflicts of interest may arise. The ownership entity should be mandated with principal responsibility for the appointment process, even if the ultimate power of appointment rests at a higher level, such as the Cabinet. The ownership unit’s role would include: identifying the required mix of competencies required for the board to fulfil their responsibilities, and aligned with Antonov’s long-term strategy; identifying individual candidates, for instance, through undertaking a competitive search and/or maintaining a database of potential candidates; and managing the government processes required to obtain formal approval of candidates. In addition to establishing an Audit Committee, the Board could consider additional specialised committees for risk management and potentially procurement as noted above. The setting up of specialised board committees can be instrumental in reinforcing the competency of the board and in underpinning their critical responsibility in matters such as risk management and audit. They may be also effective in reinforcing its independence and legitimacy in areas where there is a potential for conflicts of interests, such as with regards to procurement, related party transactions and remuneration issues. Nevertheless, organising parts of the Board’s work into committees does not bring any additional talent to the use of the Board. It only allows specific

matters to be dealt with in a smaller group, preferably more familiar with the matters in question, in an expert fashion and not having to involve the full board. If, as is recommended, the number of Board members is kept reasonably limited, then there will be less necessity for extensive use of board committees.


International Monetary Fund IMF Country Report No. 07/47 Ukraine: Selected Issues, February 2007 OECD Economic Surveys, Ukraine: ECONOMIC ASSESSMENT, 2007 OECD Sector Competitiveness Study Ukraine, 2012 OECD Guidelines on Corporate Governance of State Owned Enterprises, 2005 OECD Principles of Corporate Governance, 2004