Paulius Kuncinas -

While most of Ukraine's business community is sitting on the fence waiting for the outcome of the parliamentary elections, local bankers seem to be marching on unfazed, concluding deals with foreign investors, regardless of what the political future holds.

The news on March 27 - just a day after the hotly contested elections - that French banking group Credit Agricole has agreed to acquire Index Bank, a mid-size Ukrainian bank, confirmed the recent trend of foreign banks willing to take a bet on the country's potential. Index Bank became the seventh Ukrainian bank bought out by foreign investors in the last 18 months.

“You don't come to Ukraine because you believe that stability will prevail - what is more important is that the country is a democracy,”

says Jacques Mounier, general manager of Credit Agricole's subsidiary in Ukraine.

According to a Kyiv-based investment bank, Concorde Capital, the French bank agreed to pay $254 million for a 98% stake in Index Bank. Index Bank is a second-tier bank with 25 branches throughout Ukraine and total assets of $456 million, which gives it a market share of about 2%.

Commenting on the acquisition, Mounier says Credit Agricole is a major group providing financial services for the population, while Ukraine is a European country populated by 47 million people that are in need of financial services. “Therefore, a retail presence has to be developed in Ukraine.”

First in, first served Foreign bankers rushed into Ukraine shortly after the dramatic events that led to the Orange revolution in 2004, to find - what they deemed - to be the last virgin market in Europe offering enormous retail banking potential, in contrast to the fast maturing markets of neighbouring Central & Eastern European countries.

“Suddenly West European bankers woke up to the fact that Ukraine actually existed. All major West European bankers arrived to look for opportunities,” according to Gerd Wriedt, general manager of HVB Bank in Ukraine, who has been working in the country for a number of years.

Despite the perceived political and economic risks associated with Ukraine, a number of Western bankers decided it was better to gain the first-mover advantage in this potentially high growth market.

A flurry of acquisitions began with an aggressive bid last year by Austria's Raiffeisen International Bank. Almost overnight the Austrian bank became the biggest player in the sector after it agreed to pay an unheard of sum of just over $1 billion for the second largest bank Aval Bank.

Raiffeisen was soon followed by France's BNP Paribas and Italy's Bank Intesa, which both picked up two of the top-five banks, Ukrsibbank and Ukrsotsbank respectively.

In total the value of foreign acquisitions in the Ukrainian banking sector in 2005 was close to $3 billion.

Three of Ukraine's top five banks are now foreign owned, with the total share of foreignowned bank assets standing at around 25%.

The pace of acquisitions is, however, expected to cool this year, with fewer attractive banking assets left and most local owners demanding a significant premium from cash-rich and growth-hungry foreign players.

Not cheap Some observers have been shocked at the valuations put on local banking assets. The price/book value (P/BV) multiples have ranged from 3.5 to 5.0 times. The latest acquisition of Index Bank, according to local brokerage Dragon Capital, implies a P/BV multiple of 5.4 times.

Andriy Dmytrenko, chief strategist at Dragon Capital, argues such high valuations imply that attractive banking assets have become scarce. Another factor often overlooked by analysts, Dmytrenko explains, is that the banks acquired by foreign investors all have an extensive retail networks and so are sitting on more valuable real estate than is reflected on their balance sheets. Aval bank, for instance, had a total of around 1,380 branches when it was bought by Raiffeisen.

Growth market The main attraction of these branch-rich banks is that experienced foreign banks can launch sophisticated retail services into a sector that has so far been mainly focused on corporate customers. Foreign players are confident that retail banking in Ukraine is a goldmine because locals lack both the know-how and long-term financing to compete in this market.

Branch network is, therefore, the key asset that foreign players are looking to acquire, because opening branches organically can be an onerous and time-consuming process.

Though a significant number of international players have now acquired a physical presence in Ukraine, any explosion in consumer finance and competition in retail banking sector is not expected to kick off for at least another year. There is a long to-do list facing these new owners before they can roll out the retail banking services, such as examining in detail what they actually bought, cleaning up the loan books and improving their back offices. Only then can they embark upon a new strategy for growth. This process, according to Jacques Mounier of Credit Agricole, could take up to two years.

Political risks also can't yet be discounted entirely. Despite their clear commitment to the country, foreign bankers are worried about the final outcome of the power struggle that has been bubbling since the Orange revolution.

Meanwhile, Dragon Capital's Dmytrenko is confident that with some 150 banks left, the wave of foreign acquisitions is unlikely to subside soon. Societe General, Erste Bank and Unicredito are all said to be shopping around.

In addition, a number of international banks already operating in the country are looking to increase and consolidate their presence. The shopping-spree in the Ukrainian banking sector looks set to continue. °¥