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Spivak
Mykhaylo
Research of
Ukrainian financial market and accounting regulations requires a great deal of
intellectual efforts and personal
experience. At first glance, financial market may seem not
existing at all, and accounting looks like something confusing and
undeveloped. Yet, each of them reflects current economical, political, social situation
and serves specific goals, ranging from tax collecting to acquiring of
enterprises.
I would like to
divide national financial market into two components: banking sector, or market
for monetary resources and capital
market. Interrelated in all developed countries, they are almost independent in
Banking is a
two-level system, with National bank,
which ensures stability of monetary policy in the country and commercial banks,
directly engaged in financing of economy. International experience proves,
that national bank should be independent
of political authority, however in
Commercial banks,
which are supposed to invest in economics, offer their credit services mainly
at short term basis; often, however,
under pressure of Government, these terms may be increased significantly, up to
indefinite periods in future. Recent bankruptcy
of the largest bank “
The capital market
in
It was three distinct stages of the capital
market’s development in
1. The market of issuers (1991-1994)
The issuers issued,
sold, and bought their own securities. This led to natural (and specifically
engineered) trade schemes. The customer awareness of the market was minimal.
The result was virtually all joint stock companies, created in 1991-1994, bankrupted, leaving thousands of private investors
without any return.
2. Initial
stage (1995-1997)
In this period,
investors realized that money lost between 1991 and 1994 would not be regained.
The government created the Securities Stock and Exchange Commission to oversee
securities transactions. This small-size market was dominated by public venture
firms, heavily relying on financial inflows from offering securities to the
public. Unfortunately, virtually all stock owners of these venture firms lost
their invested money. Naturally, during the period of 1991 – 1997, small
(middle class) investors lost confidence
and left the market.
3. Regulated
market (1997-present)
During this stage,
the state tightened control over market participants. The State Securities and
Stock Exchange Commission provided basic regulations governing transactions
between market participants. At the same time, regulation of companies issuing
securities was not enough strong to provide for a transparent market. In
1994-1997 during the period of “mass
privatization” (when privatization certificates were distributed to the
citizens free of charge, for further exchange for stocks), mutual investment
institutions appeared and played the premiere role in soliciting privatization
certificates from the population. Resulting cash outflow was almost invisible
and majority of these institutions
disappeared forever. Other, according to the State Securities and Stock
Exchange Commission, “were transformed into new kinds of mutual investment
institutions, providing better protection of private investors.”
The largest
meeting place of buyers and sellers is PFTS Stock Trading System in
Capital market can be divided in two
following sectors:
According to the State Securities and Stock Exchange
Commission, in October 2001, there is 38,500 joint stock companies, including
12,300 open joint stock companies, the total amount of stock issues were $ 6.3
billion. However, this figure does not represent the capitalization of the
market, since only a fraction of these stocks are traded or, at least, in
demand. During the first three quarters
of 2001, a total of $ 1,3 billion worth of stock was issued. Of this, only 24
percent represented real financial inflows (the other 76 percent represents
re-registration of existing entities.)
After the crisis of 1998, municipal bonds are not actively
traded on the market. Only a couple of cities, tourist centers on a seaside
issued them for improving the local infrastructure: hotels, beaches,
roads. Government securities are traded
mainly between government agencies and large companies, they also may be used by
buyers for tax purposes. For example,
commercial bank decided to buy a certain quantity of T-Bills, but because
profitability did not exceed real inflation rate, bank instead of trying to
sell, might use them to pay taxes. Recent tendencies shows that this type of
securities becoming more and more popular: two debuting sessions resulted in
$40 millions of sales.
General analysis
of Ukrainian capital market shows paradoxical results: while state attempts to
follow American model, attracting private
investors, de-facto market is completely closed and tries to reach German/Japan
model. The reason for this is not close relations among subjects and objects of
the market, but unwillingness of owners to disclose and sell stock to the
public because of fear of losing “control” over the company. As it happens, all profitable enterprises
were acquired, partially, or completely, illegally and competition with
potential investor, whether it could be small national or a large west
investment fund, may lead to the change
of ownership. On the other hand, no
government law can force an individual to buy stock without any perspective to
gain a profit, as it take place with majority of traded on market securities.
Nominally, all of them are Growing, because no issuer promises to pay a
dividend, and income is expected only from difference between present and
future prices. But because almost all deals are also nominal, changes in prices
and changes in stock indexes can not be taken seriously. What does it mean “nominal deal” ? Stock
market is not abstract, but concrete place, where people earn money from
margin. But, because availability of profitable or growing stocks is small,
prices of junk stocks have been increasing artificially: traders sell them to one another imitating
investing activities and waiting for real outside buyer. In addition, PFTS
Stock Trading System’s officials are also interested in such an imitation,
because it creates an image of working
and profitable system.
Among other problems,
Ukrainian capital market faces with,
industry specialists distinguish:
1. “Flawed
investment climate” and the high risk of investing.
2. Unfinished
privatization in many joint stock companies that delude potential investors.
(The total charter capital of privatized
companies, with at least 70 percent of a company privatized, is 14
percent of the total charter capital of all companies.)
3. “Lack of domestic investment funds, that is,
the absence of cash among most
citizens.”
Recommendations how
to solve the above mentioned problems can be found in any book on economics;
simply, they can be described as “make it different”: improve investment
climate, finish privatization… Unfortunately, these banal recommendations
require complex scientific approach and hard work, they conflict with interests
of many political and economic groups; most likely, they will be dissolved in
numerous laws and decrees. In addition,
from historical experience, any change should be simple and crucial, like revolution
in
I would like to
discuss the most important and easiest to implement solution: to create
transparent and effective technology of ownership. Companies must have market
value and buyers should pay for it, no more and no less. In general, on capital
market, this action does not differ from that on any other markets; the only
thing to do in Ukraine is to establish rigid rules how to became an owner: how
to evaluate an assets, how to issue stock, how to sell, how to register a deal.
Still, legislation is approved for a marketplace itself, but not for traders and objects of
trade. Could you imagine a customer who knows everything about planning, supply
chain, management of the nearest supermarket but have no idea how to buy food
there ? Moreover, that food could be sold at different prices, depending on
personal decision of management.
For example,
highly profitable and largest Ukrainian and European manufacturer of tires
“Rosava” was sold for a book price of $ 400 millions, market price, however
was, at least $ 2 billions; results were announced 4 days after the deal; deal
was proven to be legal. If such deals
like this will appear again, Ukrainian capital market would play the role in
future, it plays now: just legally approved place for registration of
ownership. It means, that first reason why companies come into capital market
in Ukraine is to register changes in ownership, because according to civil law
it should be done there: on PFTS Stock Exchange, on local exchanges. But without the exact knowledge how these
changes were made, this registration is useless, moreover, it undermines the
image of the capital market as a whole.
Transparent
ownership legislation will make possible to determine strategy of developing of
the capital market, to evaluate which model exists or must exist in Ukraine.
Whether we should continue attracting small shareholders, thereby attempting to
stimulate cash flow from personal savings into industries (USA model of capital
market), or preference should be given to financial groups, as it takes place
in Germany or Japan. The structure of ownership will show whether sources of
company’s financing are public or not, whether it would borrow from
stockholders or somewhere else.
Second role, the
Ukrainian capital market could play, is to be the marketplace for international
companies willing to buy stocks in relatively cheap local firms. Although this
role requires much broader and separate discussion about investment climate in
Ukraine, importance of such marketplace is difficult to underestimate.
A foreign investor
contemplating doing business in Ukraine should anticipate a legal and
regulatory framework that extends into each area of activity or endeavor. A notable characteristic of this framework is
characterized by two features. The first feature is that Ukraine's laws,
particularly in the commercial sector, are still in a relative state of flux.
This means that changes to laws and regulations occur on a very frequent basis.
The second feature is that, as a result of this state of flux, there is often
conflict between (and even within) different laws, regulations, decrees, etc.
Such conflict and inconsistencies can also be experienced in Western countries,
but with far less frequency. As a result of the conflicts that are generally
inherent in the Ukrainian legal framework, precise and definitive
interpretation of a particular point or legal concern can often be difficult to
obtain.
Traditionally,
Ukraine was always described as a country with a "code-based" legal
system that is generally found in continental Europe (in contrast to a common
law-based legal system found in the UK, Canada and the USA). Many experts also
describe it as being close to Latin-American legal system. Unfortunately, these
seemingly comfortable descriptions fail to reflect the real situation where
Ukraine's legislation consists of several relatively stable codes and numerous
laws and regulations. Certain areas, like Accounting Regulations, are particularly prone to inconsistencies and
conflicting provisions, appearing with increasing frequency since 90-s. The reason for this is inability of Government to provide sound economic politics
and its desire to create conditions, under which collection of taxes and
penalties would be easiest and most effective.
In addition, total number of institutions, engaged in all those kinds of
activities, which can be described as tax/penalty collection, exceeded that of
party and state organizations under communism. Accounting became the most
unstable, most confusing, and even most expensive part of business; thousands of employee waste working
time, studying new standards, laws and decrees. However, tactically, this
Governmental approach is perfect, because it fills state budget and feeds, for example, millions
of pensioners or 40% of population.
The newest example,
illustrating state fiscal policy, is a procedure of adoption of International
Accounting Standards this year. Theoretically, this would enable companies to
cut financial statements preparation costs, especially in case of consolidating
financial statements of enterprises that have operations in different
countries. But in practice, this led only to mechanical changes in names and
quantity of accounts; inconsistency between Ukrainian and international
standards remained on the same level. Enterprises, however, spent giant sums of
money, training employees at state educational centers, buying new literature,
paying penalties and losing productive time.
Main
differences between Ukrainian and International Accounting Standards.
Until now the Ukrainian accounting standard on inventories
includes the term “low-value assets” (it may be some objects of furniture and
fixtures, computer equipment, instruments and so on). In spite of the fact that
their useful lives may equal several years (3, 5 or even more), their value may
be written off in accordance with the entity’s accounting policy, for example,
at the moment of putting them in production. It may seem ridiculous, but the
IAS balance sheet may include a rather large amount of fixed assets while the
Ukrainian balance sheet may include a very small amount or even nothing. This
is because of the significant accumulated depreciation and immediate expensing
of low-value assets. Initial value of low-value assets cannot be revalued and
so they can’t be impaired.
According to Ukrainian accounting principles, assets should
initially be measured at their cost, that is on historical basis. Their
historical measurement can’t be changed except for the following: capitalizing
of subsequent expenditures for property, plant and equipment or diminishing
their initial value in a case when part of the equipment is put out of use.
Until now there is no special standard on intangible assets, they could not be
revalued, their amortization could not be changed, they could not be estimated
annually and there could be no recognition of impairment of intangible assets. In addition, fixed assets’ useful lives
cannot be changed and depreciation costs and the net book value are formed on
the basis of their useful lives, as set by the Government. For example, according to the accounting
regulations, useful life for computer equipment is equal to 10 years, but in
reality it should be much lower and this type of equipment is usually being
written off faster under IAS.
Being prepared on historical cost basis of accounting,
Ukrainian financial statements ignore the effect of inflation, though the
economy suffers from it; only property, plant and equipment could (but usually
would not) be revalued. As a matter of fact, throughout the 1990s property,
plant and equipment and their depreciation were revalued several times on the
basis of adopted indexes, but without revaluation on the replacement basis,
their balance-sheet value cannot be considered as fair. Finally, there is
difference between Ukrainian accounting standards and the IAS, concerning
disclosures. Ukrainian accounting legislation does not contain such a wide
range of items requiring disclosure of
financial statements, which in turn, are very rarely presented to the
public. As it was mentioned above, lack of transparency of ownership and
financial activities of companies is one of the most serious obstacles in developing of the
capital market in Ukraine.
Of course,
analysis of national accounting principles is impossible without brief
description of taxation policy in country. A legal entity in Ukraine is
required to pay tax at rate 30% of
profit. However, income from certain activities is subject to higher rates of
taxation; e.g. income derived from brokerage operations (40%), and lotteries,
casinos and other gaming and gambling businesses (60%).
Transactions involving the sale or realization of any goods,
labor or services in Ukraine are subject to value added tax (VAT) at a rate of
20%. VAT is calculated and paid on the basis of the value added at each level
of production. VAT must be remitted on the difference between the VAT received
from purchasers and that paid to suppliers and with respect to other production
costs.
Disposition of
certain relatively expensive or popular
items (autos, furs, coffee, alcoholic drinks, beer, tobacco) is subject to
excise tax. In addition, an enterprise
pays municipal, industry’s (e.g.,
“exploitation of land resources” for mining), special (Chernobyl, road
construction) taxes at a total rate 5-15% of income. The terms “income before
taxes” and “expenses” are rigid, their calculation is standardized and
penalties for violations in calculation of taxable income generate 5% of state
budget. Financial accounting data are used primarily for tax reporting purposes
(in 93% of all legal entities) and for the safe-keeping of assets (33%).
Tax avoidance is
high and estimated 50-70% of GNP. For majority of specialists this is one of
the most important economic problems and their recommendations are varying from
decreasing of taxes to strengthening of state control. Another statistical data
are missing, however: proportion of tax generating enterprises. Among them,
only 20% are private companies, another 80% are legacy of Soviet economics,
industrial giants, fully controllable by Government: metal plants, refineries, food processing
factories, etc. Avoiding taxes in this field is impossible without approval of
state officials. Problem, therefore is not in high rates or low control, but
again in the lack of transparency of companies’ financial activities and ownership.
Certainly, it is possible to name other problems and their possible solutions,
but all of them are minor. Major is business itself.
For example, some
people may propose decrease taxes. I am entrepreneur and know that those who
didn’t pay, wouldn’t pay anyway, because any sum is greater then zero,
especially with the ten years’ experience of tax avoidance. So, tax collecting
should be strengthened. Yes, but it’s already rigid, additional pressure means
additional budget costs and …nothing
more. Of course, to the great extent, tax rates are important,
but the most important is possibility of doing business normally, without
perpetual conflicts with law and tax authorities.
Accounting is
essential for any business, perfect (at a given point) accounting standards
create a basis for stable and profitable work. I can’t claim, that IAS are
perfect, or they are key for solution of all economic problems. But because
successful businesses use them, it’s make no sense to keep old or create
something new (especially every quarter) in Ukrainian accounting standards.
Simple, but complete adoption of IAS will remove artificial obstacles for
companies (inconsistencies in financial regulations), relieve working force
from useless operations (e.g., double bookkeeping of documents for financial,
VAT and tax accounting ) and create
transparent business environment (disclosure of financial statements on
financial market, impossibility to avoid taxes due to announcing of financial
results, etc).
Development of
financial market and accounting regulations are two most important factors for
Ukrainian economy to succeed. While the
first ensures proper financing of business, the second is a basis for its
normal functioning, and they both suffer from instability and confusing
legislation. It sounds paradoxically, but highest economical growth in Ukraine
was reached right after the removing of ideological barriers in economics. Just
imagine: all legislation remains communist, all accounting standards and tax
regulations are still applicable only for state enterprises, but a giant number
of private companies appear and work in this seemingly unfriendly environment.
This environment, however has a great advantage: it is stable and predictable.
And only thing to do, is to apply international experience. Unfortunately,
Ukrainian Government, still provides communist economics politics. The core of
this politics is not in ideology, but in desire to control everything in the
country, especially cash flow. Undoubtedly, this is essential for surviving of
certain economical groups, but it’s fatal for business. The nature of Ukrainian
economy satisfies all requirements for successful development, confirmation for
this is that economy still works and grows (since 1990, this year is first
positive growth of 2%.) The best example
is my company, which sells industrial equipment and have 14 employees. Among those, 2 are accountants, although
under Soviets or with IAS, one would be
more then enough. This is because we
should work in perpetual cooperation with state tax administration, pension
fund, state insurance company, state statistic administration, tax police,
economic police, customs, fire department, etc: monthly, quarterly, semiannual,
annual reports, audits, statements.
Minor changes in forms of financial reports and other
documents appear each month, and in order to avoid fines and penalties
accountants cooperate informing each other current news. Recent example:
changes in the form of payment order.
This is a document for monetary transaction, which remained unchanged
almost 50 years. Now somebody decided to eliminate certain figure from it and
obliged all enterprises to introduce new form in 4 days. Even such a small
company as my, makes at average 6 transaction per day; upgrading accounting
software means losing, at least 4 hours of working time, money for upgrade and
business opportunities if it’s a big, dynamic company. How, do You think, West financial market
would feel in this situation ? Nevertheless, we still work and make profit.
Taxes, experience, competition in this respect are not so important,
opportunity to work in predictable environment and to use stable, perfect
accounting standards is crucial for business success. This will lead also to
proper financing of business (i.e. development of financial market), because
removing uncertainties in accounting regulations means also removing
uncertainties and risks in business. Banks or shareholders will know to whom
they lend money, companies will do they job, state will help all of them and
receive some reward.
Spivak
Mykhaylo
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