print 25.01.2007

GEOGRAPHY AND STATISTICS OF THE HOUSING BONDS USE IN UKRAINE

Over the last five years, the volumes of capital investments made in the housing construction market have been increasing. One of the key sources of cash attraction is housing bonds, which entered the market some years ago. At the same time, housing bonds were widely used during the years 2005-2006 when some changes were made to Ukrainian Laws regarding Investment Activities. As a result, investment contracts used before were replaced by bonds.

Picture 1. Structure of the Rated Housing Bonds in 2005-2006

In 2005, Credit-Rating Agency rated zero-coupon (housing) bonds to the amount of UAH 2.4 billion or 20 percent of the total volume over the last two years. In 2006, this index increased by four times and amounted to UAH 9.6 billion. Key factors affecting the increase in the volumes of bond issues, are given below:

• Necessity to attract cash for the financing of residential construction due to the new instrument because of the suspension in the use of  investment contracts in 2006 (the reserve of accumulated cash was not enough to make financing in 2H 2006);
• Improved legislation in 2006 caused wide use of schemes for the financing of residential construction  by issuing securities;
• The Issuing companies gained wide experience in issuing securities (over the past year,  companies made first test issues of securities);
• Improved availability of information regarding financing schemes.

Analysis of the use of housing bonds in various Ukrainian regions (Central, Eastern, Southern and Western regions) over 2005-2006 shows that each region has its own features for the development of the residential construction market (construction rates), the level of buyers demand for accommodation and the activity level for cash attraction by the builders. At present, zero-coupon bonds are widely used in the Central (including Kyiv) and Southern regions of Ukraine (69 and 25 percent of a total volume of the bonds issued). At the same time, this instrument is not as popular in the Western and Eastern regions and totals 3 percent of the total volume of rated bonds. However, the trends of 2006 show growth in the use of housing bonds in the abovementioned regions excluding Donetsk Oblast, Ivano-Frankivsk Oblast, Lugansk Oblast and Khmelnitsk Oblast (see Picture 2 and Table 1 of Appendix 1).

Picture 2. Volumes of the Rated Housing Bond Issues in Regions per Capita, UAH

Analysis of the housing bonds issued over the past two years allows one to make a conclusion on the high concentration of Issuers in separate regions and cities of Ukraine. For example, the three biggest cities of Ukraine (Kiev, Odesa and Kharkiv) have almost a 50 percent share of total issued securities. During 2007-2012, 3 500 000 m 2 of living area are expected to be built due to the cash raised from investors. In total, it was declared that 5 000 000 m 2 would be constructed over the next five years (or 10 percent of housing facilities in existence). On average, it is 1 000 000 m 2 or 150 typical 10-stories buildings per annum. Taking into account that apartment buildings are built not only due to the cash raised from securities issue, so the construction scales are impressive.  

Expected volumes of living areas to be built by investors are given in Picture 3.

Picture 3. Expected Volumes of Residential Facilities Constructed due to the Issue of Securities

Taking into account the abovementioned, the largest share of living area is to be built during the years 2007-2008.  This is because of the length of the construction period which is usually a 1-2 year process.. At the same time, some issuers postpone the date of payment for their liabilities with the purpose to insure themselves from various complications. At present, housing bonds are issued not only by companies which have wide experience in housing construction and have already issued bonds for cash attraction, but also by newly incorporated companies. At the same time, the volumes of cash raised from the bonds offering can be compared. In some cases, such volumes are larger than the budgets of cities with a population level of over a million people such as Kharkiv, Donetsk or Odesa. We are talking about liabilities in the sums of millions of hryvna or hundreds of thousands square meters to be constructed during the next two-five years.  

We give for examination: the following figures: five companies issuing securities have the largest volume of liabilities with a total sum of UAH 3 billion. The companies plan to construct about 850 00 m 2 up to the year 2010. At the same time, some companies have a negative value of equity capital. Some of them have no experience in the construction sector and just one (large construction holding) has experience in the construction of 14 apartment buildings with a total area of 150 000 m2 and an appropriate investment rating. The highest issue rating of the four companies is a speculative rating of uaB with a stable outlook. The nearest redemption date is 2Q 2007.

Does it mean that the investors will not meet their obligations? It necessary to notice that uaB rating indicates a debt liability that has a higher default possibility on the payment of principal and interest than a uaBB rating. However, the obligor has a possibility to meet its commitments according to Ukrainian financial market conditions. These debt liabilities are more sensitive to adverse moments in business, financial and economic conditions compared to debt liabilities with higher ratings that may negatively affect the obligors capacity to pay the principal and interest in full and on time. The moratorium on such liabilities can be up to a one-year period according to analysis of Credit-Rating Agency.

In summary, we give the following trends of issue and circulation of zero-coupon (hosing) bonds in various regions during 2005-2006:

• A high concentration of bond issues in the Central (including Kiev) and Southern regions: 69 percent and 25 percent of the total volume of  rated housing bonds over 2005-2006;
• A low concentration of bonds issues in other regions (the Eastern and Western parts of the country have a 6 percent share of the total volume).  However there is a trend for an increase in the volumes of housing bonds used for residential construction financing in 2006: from UAH 150.1 million to UAH 226.1 million (Western regions) and from UAH 119.7 million to UAH 271.7 million (Eastern regions);
• it is expected to build considerable volumes of living area due to the cash raised from issuing housing bonds: about 1 935 300 m 2 during 2007-2008;
• high risks of default of housing bonds by issuers that was caused by using bonds at different stages of the project (including the initial one) and giving the right of issuing securities to any participant of the project without regarding  its experience and financial position;
• use of newly established companies in financing schemes, the main task of which is to accumulate cash raised from offering the bonds and to use them for the construction financing. Customers of such construction are usually related companies which do not even give any guarantee for the bonds;
• active use of housing bonds by leading regional Developers;
• there is a trend to change from using simple schemes of bonds issuance to schemes of financial institutions, for example mutual investment funds.

Taking into account the abovementioned trends, it is more expedient to use housing bonds issued for the financing of construction projects with a high degrees of readiness, and to use companies, which have issued bonds, who have all the necessary construction permits, which are not to be revised over the construction period until the bonds redemption date. It is especially logical to use the bonds of companies, which have wide experience in the construction sector (or a qualified management structure, or enter a group of companies specializing in construction), have already built buildings without any violations and have low volumes of debt liabilities. Usually the securities of such companies have investment grade ratings that are evidence of the high reliability of the Issuer. For example, the lowest investment grade rating of uaBBB (regardless of the sign) indicates an adequate capacity to pay both interest and principal on the given debt liability in the Ukrainian financial market environment. This rating indicates a level of creditworthiness that is more susceptible to adverse changes in commercial, financial and economic conditions than debt obligations with higher investment grade ratings .

Appendix #1

Table 1. Volumes of the Housing Bonds Issue in Regions for 2005-2006