A Market Dependent on Reform: A Ukrainian Round Table

State of the Market

“I can feel the market is starting to pick up,” started host Natalia Kochergina, Partner at DLA Piper, kicking off the conversation. “A number of our clients – retailers especially – have renewed their expansion plans, which have been frozen for several months now. At the same time, we see activities on Asian plans for investment – in particular Chinese.” Armen Khachaturyan, Senior Partner of Asters, agreed: “We also see some activity in its incipient stages. We need to wait until the end of the year to see what the reality will be, but I am optimistic that growth will be renewed.”

Not everyone is so bully on the future. Olexander Martinenko, Senior Partner at CMS Cameron McKenna, cautioned that the 1% GPD growth projections for the country are still “very much dependent on the position of Ukraine in the global landscape” and how several macro-economic elements will play out.

Martinenko identified several critical sectors for business in the country. “There are several key areas that the country simply cannot afford to let die,” he said. “One of them is energy. Certain global energy projects have died away: shale gas, black sea oil, and gas deposits. I would say that what we need to do is look at these key areas and plan to serve our clients in these: energy, agriculture, FMCG, and even some tech and IT sectors where Ukraine shows potential and growth on an annual basis.” Khachaturyan also identified energy as one of the traditional areas of interest for investments in Ukraine: “Unfortunately, the Odessa privatization failed recently. The plans presented at the beginning of the year have not materialized yet, but the expectation that they will pan out is still pending in the market. The failure (at least on the surface of things) of shale gas projects was a hit, but the projects are still active, and [we are] also curious to see how these rather lucrative projects will work.”

Nazar Chernyavsky, Partner at Sayenko Kharenko, also pointed to the state sector and agriculture as “key areas driving the growth in Ukraine.” Chernyavsky noted that the public sector is “rather complicated,” as “there are of course some industries that cannot be allowed to die out – like the others mentioned – but that require enormous investments which private organizations are simply not willing to make in the country right now, meaning we need to look to the public sphere for that input.” One alternative to private investment, Chernyavsky suggested, are international donors. Indeed, he said, “some have been quite generous to date, such as the EBRD, which has invested considerably and has committed to doing even more.” Of course, he conceded, these deals, and implicitly the flow of cash into the country from all outside investors, “is heavily dependent on the reforms.”

Reforms

According to Chernyavsky, the pace of reform in Ukraine since the 2014 Euromaidan Revolution has been relatively slow. Some positive steps have been made, he agreed, “and we can see that reflected in the mood of international donors continuing to work with us,” but he insisted that “more needs to be done, and this is one of those areas where lawyers can be trend setters, since they can get involved and since there are still many changes to be made. I know that almost all firms are involved heavily in bringing them about.”

The current climate in Ukraine reminded Serhiy Piontkovsky, Managing Partner of Baker & McKenzie, of an earlier moment in Ukraine’s post-Communist history. “To some extent I feel it is back in the 90s,” he said, with “a lot of projects on reforms driven and financed by international donors. It’s a good time for lawyers to use this setting to introduce novelties in the country and then, when the markets are back, to build upon [them].”

Piontkovsky agreed that the reforms that have been made so far are “relatively small” and “there is a lot to do.” Still, progress is being made, he suggested: “We worked on elements related to reforms on corporate governance for example, we are seeing a lot of reforms that are taking place at the level of large state-owned companies. A large area of reforms now is focused on PPP and concession laws, with some projects coming in from the EBRD driving that. The same [is true] with the management of state-owned banks. Basically if you look at any regulator within the country, they all have their own agenda and legislation-reform proposals.”

Indeed, a number of Round Table participants pointed to successful improvements that have already been made. Chernyavsky, for instance, pointed to the much-needed reform of financial restructuring standards to bring them up to Western par, noting that the Ukrainian Ministry of Finance has initiated projects using international donor funds to introduce several changes to existing laws and provide new mechanisms for financial restructuring – a process “that was done on a fast track.” Chernyavsky explained that these changes “provide [companies with] new instruments to restructure their debts [to] allow them to re-launch their businesses. In the past, they were afraid that their creditors would take all their assets, so there was no point in commencing restructuring. The Turkish experience, which was largely used when drafting this law, proved that it is a good chance to re-launch the whole system.”

Anna Babych, Partner at Aequo, described a draft law on limited liability companies as “a long-sought reform” backed by “a huge campaign launched by the Ministry of Economy.” Even with the vote on it being delayed until the autumn session, she believes this marks “great progress.” Other improvements worth noting, according to Babych, are the increased powers of investigation assigned to the Security Commissions and the raising of thresholds needed for competition clearances.

Olexiy Soshenko, Managing Partner of Redcliffe Partners, added that “one of the hot topics that Ukraine is struggling with so far is improving the judicial system and police enforcement.” Mykola Stetsenko, Managing Partner of Avellum, also commented on “the first fruits of the law enforcement agency reforms and judicial reform and anti-corruption bodies.” Stetsenko reported that, “we haven’t seen a lot of people put into jail yet, but we are seeing arrests and prosecutions: a sign that Ukraine is finally fighting corruption, and hopefully internationals will see it.”

It is “obvious that a lot of reforms are taking place” Martinenko agreed, while reminding everyone that Ukraine has long been seen as a place with immense but “unfortunately, unfulfilled potential.” Martinenko takes the current claims to reform with a grain of salt, noting that, “it is the case for the last 20-25 years that everybody is talking about Ukraine needing to achieve its potential. A lot of foreign colleagues say it is not just about the reforms but that a lot depends on implementation or law enforcement and the application of law. As some might recall Ukraine was faced with scandals related to selective application of law. That’s the most important next step: looking at whether, in addition to judicial reform, the application of it will be in line with what was declared.”

Still, Babych expressed a cautious optimism, insisting that it “takes time for the nation to mobilize behind this progress.” She explained that: “Keep in mind that some of these reforms are just so critical that we need to take time and discuss them in society before we see even draft bills in the parliament.” Soshenko agreed, suggesting that, “while there is some level of dissatisfaction with the current pace of the reforms,” people need to be patient. He added: “It is challenging to be as quick and successful as society expects. We observe a generally positive trend of successful private sector lawyers, bankers, and other business people taking on challenging jobs in the Government – but some old school officials are still there. I doubt it is even feasible to replace them all.”

Practices and Competition

The conversation then transitioned to the law firm world. According to Asters’ Khachaturyan, financial restructuring “will likely continue to be a huge practice.” For his part, Chernyavsky reported that a lot of work “rises from compliance, a bit from corruption as well, as well as some areas that are globally hot, like data compliance and protection that are increasingly becoming relevant for Ukraine. especially for the internationals present in the country.” Martinenko added that, “some bread and butter matters such as dispute resolution – which is active in both good and bad times – will always be something we’ll look out for.” Babych, however, noted that areas such as corporate/M&A, “will grow later than others.”

Khachaturyan then turned to increased competition from new directions in the law firm market. First, he commented on the boutiques starting to appear, focusing on matters such as “immigration, which has developed into a booming practice,” or on private clients and wealth management practices, “with people trying to invest and getting citizenships in EU countries.” He then commented on the increased competition from the Big Four as well, reporting that they are “evolving into an actual legal practice … with all major practices, including M&A, corporate, and finance work.”

Martinenko, at CMS, was not convinced, insisting that “it is clear that there will be no room for non-specialized law firms.” He added: “There is an advocacy law that explains who can be an advocate [and] cater to what practices. I cannot imagine an advocate who will provide accounting services. Secondly, we need to understand what the legal services are. For example, tax has two components: calculate digits or understand what the law says – two completely different areas. From experience the Big Four are great on calculating digits. If, on the other hand, CMS comments on law aspects, that does not mean we can calculate digits. We analyze what the law says and what are the pros and cons of various set ups.”

In addition, DLA Piper’s Kochergina pointed out, what’s good for the goose is good for the gander. “Sure, they are spreading their wings as they have always done. But it’s a two-way street. Law firms are also competing with them. Tax litigation involvement means you enter into their spheres increasingly.” Either way, Kochergina claimed not to be too concerned, explaining that, “as a person who worked for a Big 4 in the past and now as a Partner for DLA, I can look at the level of services and can say that in the Big Four, legal services are supplementary. They are not doing the same types of legal work.”

Following up on Kochergina’s reference to law firms encroaching on the traditional territories of the Big Four, Chernyavsky, at Sayenko Kharenko, reported that his law firm was developing several non-traditional practices as well. “Some were rather accidental for us, such as the accounting services, since we had a large team move over from PwC and we suddenly had this capacity. Apart from that we established a government relations practice a while ago, which is not only engaged in these types of pro bono services but also provides GR for American and Western companies, specifically to lobby some targeted changes in the legal framework as well as some traditional Western GR work. In that respect we compete with some of the GR agencies operating in Ukraine. On top of that we have a corporate security practice which provides advice to local companies on how to organize their security.”

Speaking in general terms, Piontkovsky noted that, despite the resurgent Big Four and the increased boutiques, “generally I find that the market has stabilized.” He explained: “The economy two years ago was going down, and inflation was at two-digit numbers, but now all of these indicators have come to normal levels, and I feel that the legal market has achieved a certain level of stability as well. Yes, we’ve seen some departures, but my understanding is that the economy and legal market has stabilized now and all are waiting for growth.”

Stetsenko was even more optimistic: “In terms of trends in the market we see some mergers between some of the smaller firms, some exits, and some spin-offs. I’d say the market is active. I’m maybe a bit overoptimistic but a few months ago we even had talks that we may see big international players considering coming into the market, which will likely lead to a consolidation of the local players. I haven’t heard of any real talks about actual mergers between local players, but we’ll see two or three years down the line.”

On Salaries and Fees

Stetsenko reported that as the market seems to have stabilized, all law firms are busy. This, he explained, “means less competition for clients and more competition for talent.”

Coming from one of the largest international law firms in the world, DLA Piper’s Kochergina perhaps unsurprisingly believes that local firms have trouble matching the “clear set of standards in terms of career path and those opportunities which lawyers get with international firms. I think the general trend is that working for a local law firm is a good experience and good school before you get to join an international firm because you cannot start directly working with an international law firm.” Babych, from Ukrainian law firm Aequo, responded that while internationals might have a clearer track and direction, “the downside there is that, perhaps, there is not enough room to grow into.” In contrast, she argued, with local players young lawyers still have opportunities to develop. Kochergina was unpersuaded, explaining that international firms “have a notion of a business case. If you have one, there is always room for a Partner.”

Stetsenko joined into the argument about the difference between local and international firms as well, noting that his firm, at least, had yet to see any lawyers move to an international firm. In his view, it all comes down to a matter of expectations: “I think locals have to apply the same standards in order to compete with international firms. What you also need to keep in mind is that locals tend to work with plenty of internationals on a referral basis, and aside from simple interactions, many impose their standards on local referrals.”

Kochergina conceded the point: “Most don’t just want to work for an international or local. They are looking for an established practice and a known Partner. I guess then it matters less if it is an international or local but they look for the leader or practice to get experience.”

Redcliffe Partners’ Soshenko claimed that “the Ukrainian market is different in the sense that local firms have traditionally been quite strong.” In addition, he noted, “there are also fewer internationals in Ukraine than in other CEE jurisdictions. This means that locals and internationals compete for the same high-profile work. Leading local firms adhere to exceptionally high standards of professional ethics and ways of doing business, comparable to those of the top international law firms. They also tend to put forward competitive salaries, attract, and keep really good lawyers.”

Martinenko suggested that one explanation for fluctuations in the salaries offered in the market could be that many firms have started paying in the Ukrainian currency – the Hryvnia (UAH). Chernyavsky reported that his firm had switched to UAH back in 2008: “In fact it was an appreciated move and it was a good moment to switch, as the local currency appreciated. At the time everyone was happy, but it did not last, because in September it depreciated.” Kochergina claimed that if fees are set in foreign currency, that should be reflected in the salaries as well, but Stetsenko disagreed, because “the exchange rate became so unstable that we were tired of updating the salaries regularly.” Ultimately, he said, “like most firms we re-asses this twice a year and pay bonuses up to 50% to match both performance and currency fluctuations.”

As far as fees are concerned, Stetsenko explained that “because of the competition in the market, most [firms] stuck to the foreign currency.” Chernyavsky suggested that this practice might be a reflection of the fact that most of the firms present at the Round Table work predominantly with foreign clients, though Kochergina disagreed, replying that it is “most law firms are serving a fair number of both the local and international clients – it’s impossible to act differently these days.” Chernyavsky conceded that it might depend on the practice, but added that, “When we started we had almost 80% of work from foreign clients – where it was more acceptable to be charged in foreign currency. Especially in light of fluctuations, foreign currency is at least more predictable. At the same time, yes, many local clients do raise the issue of being charged in local currency – not just invoicing but calculating the rates in local currency. In that case, especially where we are working with state bodies, we need to accept it, but that’s more of an exception.”

Although there were, as always, expressions of concern about how extreme the pressure to lower fees had become, Martinenko had a potentially surprising report: “I can compare what’s in Kyiv and the region. I can say that our average fees (not just CMS’s but all firms) are much higher than in Poland or the Czech Republic. I am surprised that my colleagues in other CEE offices need to charge far less, especially if they work for state-controlled companies. From this point of view, I think we have small room to complain here. Our situation is not as bad, and with the market level rates it is livable here.”

Kochergina agreed with Martinenko’s report, and offered a potential explanation: “It’s a riskier market, meaning higher liability, and it used to be a really unsaturated market as well.” Chernyavsky agreed: “Historically, the higher rates are related to the fact that we had scarce legal talent. Ten years ago we had a lot of investors, and the Ukrainian market was offering them really high margins, meaning they were eager to pay but difficult to find someone to help.”

Of course, as Stetsenko explained, fees aren’t the only consideration. “I think we also need to distinguish between nominal rates and actual realization,” he said. “I can’t speak for my colleagues, but we have not dropped our rates after the revolution. But what we have seen is pressure to provide higher discounts. I remember this discussion years ago when I was still at Baker & McKenzie. when Swiss lawyers were uncomfortable working with London colleagues on deals because of different traditions. In Switzerland, a maximum of a 5% discount is a rare exception. In London, it is common to go for a discount of 20%. Swiss lawyers had to adapt their mentality when they had to give a quote together with London colleagues. It’d be interesting to see if discounts in Ukraine are as high as in other CEE markets.”

Khachaturyan was skeptical, arguing: “I agree that both nominal rates and realization [are] much higher. What we see is a Ukrainian level that is higher than the average CEE level, such as Polish, Hungarian, Czech, Bulgarian, or Macedonian rates, and even German ones at times. That, however, matters less when – on a multi-jurisdiction project – we are [shown’ the average rates in other markets and are told, ‘look, guys, you want to be on the project, then just match it.’ And we would. The discount depends on the expectations and interest to be on the project – a constant question for Ukrainian lawyers.”

Babych said that, at the end of the day, “we are talking about value for money.” She noted that Ukraine “is still very much a traditional market” in contrast to European jurisdictions in which “you see a lot of firms customizing a lot of their services but also see a movement towards commoditization and IT developments” to keep margins healthy despite the fee push. Kochergina agreed, noting that, at least in that way, lawyers in Ukraine are lucky to be working in an underdeveloped market.

Kochergina concluded the event by explaining that the legal profession can be broken down into three types of work: “Rocket science, trusted business advisor – which is more sophisticated than commodity – and then commodity. The business of law is seeking to find a balance and chasing rocket science while filling in the gaps in margins with the other two. We’re providing a lot of the first since the market is not sophisticated.”

Round Table Attendees: