Overview of Telecommunications, Media, and Technology in Ukraine

The High-Tech Navigator. Ukraine, 2002

AVentures Company Ukraine

06.15.02 

Contents 

1. Macroeconomic overview (by the International Center for Policy Studies)
   • Ukraine’s economic growth: key factors an caveats for the future

·         Investment climate (by AVentures)

 

2. Industry overview (by AVentures)

 

·         Telecommunications

-                Fixed-line telephony

-                Mobile telephony

-                Internet

o     Internet Providing

o     IP Telephony

o     E-commerce

o     Web Advertising

·         Media

-                Television

-                TV advertising

-                Printed media

-                Radio

-                Internet-media

 

·         Technology

-                      Computer software

-                      Offshore programming

-                      Computer hardware

-                      Telecommunication equipment

 

·         Investment in Ukraine’s TMT sector

 

3. Offshore software development in Ukraine (by American Chamber of Commerce).

 

4. Doing business in Ukraine: investor’s perspective (by Altheimer & Gray).

 

5. Legal environment of the investments in the TMT market of Ukraine (by Baker & McKenzie Kyiv).

Introduction

This review shows the present state and the potential of the Ukrainian TMT (telecommunications, media and technology) sector and is based on the AVentures’s seven-year experience in this industry. We hope that this paper will attract the attention of both domestic and foreign investors to this quickly developing and promising sector. We and our partners American Chamber of Commerce in Ukraine, Baker & McKenzie, Altheimer & Gray, and International Center for Policy Studies, will be happy to share our experience with interested investors and assist them in exploring opportunities and arranging the investment in the Ukrainian TMT sector.

Despite the recent worldwide stagnation of the TMT, in Ukraine this sector is growing. Its revenues in 2001 grew around 16% and amounted to $2.4 billion (6.3% of the GDP): telecommunications – $1.5 billion, technology (computer hardware and software, telecom equipment) – $610m and media - $300m.

Ukraine, which has population of 49 million and one of the highest literacy rates in the world (98%), has vast potential and yet underdeveloped industry and infrastructure. The capacity of growth of the Ukrainian TMT sector is huge given its current state. For example, the telecom and computer penetration levels here are far lower than European averages. In particular, fixed line penetration is 21% vs. more than 40% in Europe, mobile telephony – 4.7% vs. more than 50% in Western Europe, the Internet – 3% vs. more than 36% in Europe. The level of media development is also lower, in particular, advertising spending in Ukraine amounts to 1% of GDP as compared to 6% in the neighboring Poland. This is why it is not surprising that Ukrainian TMT sector is growing – as opposite to slowdown in North America, Japan and Europe. The factors of growth are:

·         General economic growth (5.6% GDP growth in 2000 and 9% in 2001) – the fastest in the CEE/CIS;

·         Historical development of the high-tech industries which need good infrastructure and skilled workforce – space, aircraft, military and shipbuilding;

·         High level of technology science and schools, inexhaustible talent pool.

The Ukrainian sector remains under invested. However, the factors restraining inflow of investments are now mostly in the past with the investment climate improved. We predict that stabilization of the political situation after 2002 spring parliamentary elections and eventual privatization of fixed line monopolist Ukrtelecom will contribute to growth of FDI inflow in the country and in the TMT sector in particular.

Now is the best time for investors to step in and claim territory in this promising market.

Industry overview

Telecommunications

by AVentures. 2002

www.aventures.biz

*Brief version. Full survey of Ukrainian TMT market might be available upon request

 

Fixed-line telephony

·         At the beginning of 2002, tele density in Ukraine was 20.7 lines per 100 people. It varies widely, from 45.4% in Kyiv to just several percent in rural areas. Currently more than 10.5 million people are clients of fixed line operators.

·         Ukraine in general has outdated fixed-line network. Only 14% of exchanges are digital and another 10% - quasi-electronic and semi-electronic.

·         Uktrelecom, the state-owned telecom giant, retains 80% of the domestic market by the number of subscribers – 8.5 m. There are many local private operators; the majority of them are niche players.

·         On a limited scale, there are several fixed wireless (CDMA/TDMA) operators.

·         The market will remain held up until it becomes clear when and how Ukrtelecom will be privatized. The privatization is expected to seriously impact the further development of Ukraine’s telecommunications.

 

Table 1. Tele density in Central and Eastern Europe.

	1996	1997	1998	1999	2000
Albania	1.4	2.3	3.4	4.2	4.4
Bosnia	8.1	9.0	21.8	24.5	22.1
Bulgaria	31.7	32.4	33.5	34.6	35.6
Czech Republic	27.3	31.8	36.3	37.3	37.5
Estonia	30.1	32.6	34.9	35.5	38.3
Hungary	26.0	30.4	33.4	36.9	40.8
Latvia	29.5	30.1	30.3	30.3	30.2
Lithuania	26.8	28.3	30.1	31.1	32.0
Macedonia	38.4	38.4	38.3	38.7	37.2
Poland	16.9	19.7	21.7	26.1	28.5
Romania	14.0	15.3	16.2	17.5	19.8
Slovenia	33.3	35.8	37.3	37.8	38.4
Slovakia	23.2	25.9	28.6	30.7	31.0
CEEC Average	19.1	21.3	23.4	25.8	27.5
Ukraine	17.6	18.3	19.0	19.6	20.1

Source: ESIS II (EU Info Society)

 

Ukrtelecom

Despite losing local fixed-line and long distance monopoly in the recent years, Uktrelecom, the state-owned telecom giant, still retains 80% of the domestic market by the number of subscribers, servicing 8.5 million clients. Ukrtelecom is the dominant provider of telecom services, such as local, national and international telephony, mobile telephony (via mobile operator UMC), leased line and data network services, distribution and broadcasting of radio and television signals.

 

The Ukrainian government says it will announce an open tender to attract a long-awaited strategic investor for Ukrtelecom in April 2002. The state plans to retain a 50% plus one share stake in Ukrtelecom, and offer up to 39 percent to a strategic investor. There are speculations that the likely bidders will be Deutsche Telecom and France Telecom.

 

Private Operators

Two companies dominate the national and long-distance fixed-line networks: Ukrtelecom and Utel. There are a number of private, mostly regional, providers of fixed-line services, such as Golden Telecom Business Solutions, Kancom/Andrew, Optima, Farlep and Crymtel, whose total market share does not exceed 20%.

Golden Telecom (NASDAQ: GLDN) is the holding company for stakes in a number of telecom in Russia and the CIS. The company is owned by Russia’s Alfa Group, Global TeleSystems, the EBRD, Capital International Global Emerging Markets Private Equity Fund, Baring Vostok Capital Partners, the Soros Group, and a variety of institutional investors. It holds a full PSTN license for Kyiv where it provides switched traffic services via its metropolitan overlay network, data and long-distance services using a fibre-optic and satellite-based network, and Internet access.

The next two largest operators are Optima (estimated 130,000 lines) and Farlep (estimated 200,000), which started their operations correspondingly in Dnipropetrovsk and Odessa regions, and are currently expanding fixed-line operations nationwide. They recently entered other mass-market segments, including IP telephony and dial-up Internet access.

 

Fixed Wireless (TDMA/CDMA)

Fixed wireless allows to quickly connect the remote and hard-to-access areas that lack cable infrastructure to the modern telephone network by replacing the costly exchange-to-subscriber wires with wireless transmitters. In a bid to reduce waiting lists, Ukraine’s main telecommunications supervisory body, the State Communications Committee, awarded fixed wireless licenses to Telesystems of Ukraine and Ukrainian Wave in 1997

Ukrainian Wave operating under the trade name of DigiTel was originally financed by the EBRD and OTE, the Greek telecom.

The government licensed two CDMA operators: Velton, in 2000, and International Telecommunications Company (ITC), in 2001, which currently develop their operations in several regions of Ukraine.

 

Trends

Privatization of Ukrtelecom will be the sector’s major deal in the two years to follow. The whole telecommunications market appears to be held up until it becomes clear when and how Ukrtelecom will be privatized. The likely consequences of Ukrtelecom’s privatization for the telecom market may be: ·         Increased competition from Ukrtelecom, as the strategic investor will try to improve service quality; ·         Revision of tariffs for operators using Ukrtelecom resources, such as primary network; ·         More stability in the telecom sector regulations; ·         Regulatory strengthening of Ukrtelecom market position for a period of at least several years.

 

 

Mobile telephony

·         Ukraine’s mobile market displayed spectacular growth rates of 170-190% in the past 3 years by number of users, and currently has 2.3 million users, with a 4.7% penetration.

·         The market is dominated by two operators, UMC and KyivStar, which both account for up to 95% of all subscribers. The remaining 10% are distributed among three other operators. Most of mobile operators are minority owned by foreign investors.

·         The market is expected to nearly double during each of the following two years. There may be room for niche players.

 

Ukraine’s mobile market is fully dominated by two operators – UMC and KyivStar – which both account for around 95% of all subscribers. UMC has recently been run down by KyivStar in the number of subscribers, and its market share has dropped below 50%. However, by revenue size, it is well on top and continues to claim over a half of the annual home market of $380m.

 

The high growth is likely to continue in the future: at the end of 2001 Ukraine’s mobile penetration still was a mere 4.5 users per 100 inhabitants, while the average rate for Central and Eastern Europe was about 20 users per 100 inhabitants.

 

Table 3. Mobile penetration in selected CEE countries

CEE Country	Population, million people	Mobile penetration (2001)
Czech Republic	10	52.0
Hungary	10	35.0
Slovakia	5	31.0
Poland	39	23.4
Bulgaria	8	12.0
Romania	23	11.2
Russia	146	4.5
Ukraine	49	4.5

Source: AVentures

 

Ukraine’s average revenue per user (ARPU) dropped significantly from $50 in 1998’s to an estimated $21 in 2001, as the mobile operators tapped the low-end prepaid segment of the market.

 

Prospects

The Ukrainian mobile market is predicted to grow 60%-80% annually in the next 2 years. The market has been equally divided between the two main operators KyivStar and UMC who have both vowed to work more toward network quality, rather than subscribers growth. In this stalemate, we believe there is still a room for a new entrant, who, however, is unlikely to compete with the incumbents in the short- to medium-term.

 

Internet

Internet Providing

·         Around 500 thousand active users of the Internet and more than 260 ISPs

·         Highly competitive and liberalized market

·         The market is on the edge of consolidation. There are opportunities for both strategic and financial investors to participate in the process of consolidation and development of the market

·         Dial-up is the prevalent type of connection for both residential and corporate users. Leased lines and DSL remain unaffordable for most of residential users

·         Dial-up prices have stabilized while leased line prices will keep falling

 

Market growth.

At the end of 2001 there were in total around 1.5 million Internet users (penetration rate of 3%), 500 thousand were active users (those who use it at least once a month). The number of active users represents around 40% annual growth. If, most likely, the growth rate will remain the same, there will be 700 thousand regular users by the end of 2002.

The ISP market is on the edge of consolidation – there are around 30 first- and second level ISPs which occupy up to 80% of the market. We expect that up to ten first-level ISPs will survive in the future consolidation, while only a handful of up to 15 second-level ISPs (and probably none of the third-levels) will survive in the long run. First-level ISPs are positioned to merge, as the experience of western countries and CEE/CIS shows that competition on the ISP market is lower and concentration is higher than in Ukraine.

 

Future prospects

Differing from the U.S. and Western Europe, the Ukrainian market for Internet services depends more on availability of telecom infrastructure and PCs than on demand for ISP services. Obviously, the very low level of PC ownership/usage in Ukraine hinders the growth: there are around 1.3 million computers in Ukraine - roughly 2.6% of population - while in developed countries this figure is at 70%-80%. Considering that sales of desktop PCs manufactured in Ukraine equaled approximately to 200,000 units in 2001 and projected market annual growth for the nearest years is expected to be at 25%, the Ukrainian market for Internet services is likely to continue to grow at the same rate (40% annually) in the mid-term.

 

IP telephony

·         Rapidly growing market with current size of around $12mln

·         Highly competitive segment – 60 operators sharing the market

·         The share of IP telephony on international destinations will continue to grow

 

E-commerce

·         Despite its current low level of development, B2B will start growing in the near future

·         B2C is set to grow significantly in the coming years

·         Web-advertising currently occupies a small share of total advertising and has a big room for growth

E-commerce has been developing slowly in Ukraine due to several factors, the main being poor infrastructure (including the underdeveloped banking sector and low Internet penetration), the lack of legislation, and low living standards of population. The Ukrainian B2B market is very poorly developed. There are a handful of portals that provide marketplaces for businesses, however, their amount of trade is negligible and their facilities are inadequate. At the same time, with the development of Internet infrastructure and growth of computerization of businesses, the need in B2B services will grow substantially.

The annual turnover of the retail e-commerce was estimated at $1m in 2001.  We expect that the consumer e-commerce segment will generate over $65m in revenues in 2005 taking over 0.4% of country’s retail sales.

 

Web Advertising

An estimated 80% of Ukraine’s web advertising is done through banner-exchange networks . Ukraine's leading banner networks expose web surfers to approximately 1 million banners per day.

 

Media[1]

by AVentures. 2002

www.aventures.biz

*Brief version. Full survey of Ukrainian TMT market might be available upon request

 

·         Ukrainian media is still undergoing a development process and presents clear opportunity for investment

·         State’s monopoly and control deter development of media

·         Growth of advertising is a favorable factor for media development

·         Internet media is developing as self-contained media

 

Prior to 1991, Ukrainian media was in poor condition - its level was even lower than one of the central Soviet’s media and it lacked several parts and features that are typical for western media. Despite significant development since 1991 both in quality of products and quantity of companies, the country’s media remains underdeveloped by western standards – for example, there is lack of daily nationwide broadsheet newspapers and specialized TV channels (discovery, culture, etc.), domestic production of TV commercials, films and shows is scarce. This situation presents opportunities to enter the market and start various projects in different segments of media, and the market is destined to develop.

 

Television

Television has the dominant position on the mass media market and grabs the lion’s share of the total audience and advertising revenues. There are three nationwide channels, which are used by the five national TV companies to broadcast their programs

 

Table 7. Ukraine’s TV companies

TV companies	Coverage of population, %	Number of broadcasting hours per day	Audience  share, %
Nationwide channels
National TV (UT-1)	98	15	3.7
TRK Era		4	N/a
Studio 1+1	98	12 (prime time)	21.9
National TV (UT-2)		7	1.1
Inter	81	19	23.8
Inter-regional channels
Novy Canal	60	24	8.0
STB	47	18	4.0
ICTV	45	18	6.1

Source: National Council for Television and Broadcasting of Ukraine, AGB Ukraine

 

The state owns the National TV Company of Ukraine that has the largest population coverage. However, the audience of both state companies, UT-1 and UT-2, is inadequate (according to AGB Ukraine, their total share is 4.8%.) Local governments also own over 27 regional television companies in every oblast. Around a third (32%) of the Ukrainian audience is covered by non-national TV companies - regional (approximately 20%) and Russian (approximately 10%). To compare, in Poland, non-national television accounts for only 8.5% of the audience (source: AGB Poland).

 

TV advertising

Television advertising, being the largest source of revenues for Ukrainian television companies, is on the rise and is considered one of the best means of advertising in Ukraine, constituting about 60% of the national advertising market (see the breakdown of the total advertising market below).

 

Chart 6. Ukrainian advertising market by type of advertising

 

Source: U.S. Foreign Commercial Service Ukraine

 

The volume of TV advertising fell to mere $40m in 1999 from around $100m in 1997. However, the substantial improvement of the Ukrainian economy during the last two years and parliamentary elections scheduled for early 2002 stimulated a sharp increase in revenues received by leading TV broadcasters. Reportedly, TV advertising revenues during the first eight months of 2001 totaled $195.5m, which is a 60% increase versus 2000. In general, the Ukrainian advertising market is quite small in relative terms despite recent growth – it comprised less than 1% of GDP in 2001 (around $350m), while in Poland it amounts to 6% of GDP.

 

Printed media

The printed media market is poorly developed in Ukraine in terms of meeting demand and generating advertising revenuesThe level of weekly readership in Ukraine, 81%, compares favourably to other countries: in Finland, newspapers readership is 88%, in Japan - 80.4%, and in the USA - 75%.

 

The nationwide periodical press has the lowest level of state ownership. The government is the founder of 9% of all periodicals, but this is still more than in any Western country. The authorities publish two of the top ten daily newspapers (the parliament newspaper - Holos Ukrainy, which is 8th in terms of national audience, and the newspaper of the Cabinet of Ministers - Uryadovy Kuryer, which is the 10th). The state’s share of the newspaper market is much higher at the local level, where the authorities retained ownership of most of the Soviet-era newspapers and founded new papers.

Printed media advertising accounts for about 14% of the national advertising market. This is well below the average newspaper share of ad expenditures for Europe (38%) and for Poland (25%).

 

Radio

Radio has a smaller audience than television in Ukraine and accounts for only 4% of the national advertising market. Some 72% of Ukrainians listen to radio more or less frequently, 46% listen to radio every day. The cable radio network run by the state-owned National Radio Company of Ukraine is the most popular radio service in Ukraine, and owes its popularity to extensive cable radio network developed in Soviet times.

FM stations market is rapidly developing and changing.

 

Internet-media

Internet-media has developed in Ukraine as a response to growing control of the state and powerful political groups over TV, radio and printed media. As opposed to the western situation, where informational web sites are in most cases just the extensions of offline media, the most popular Ukrainian Internet-media do not have offline extensions. In the vast majority of cases information portals are heavily subsidized and do not rely on advertising revenues. One of the few exceptions is SputnikMedia.net that in 2000 raised $500 thousand in investment from a venture fund and plans to receive returns from advertising.  

Technology[2]

 

by AVentures. 2002

www.aventures.biz

*Brief version. Full survey of Ukrainian TMT market might be available upon request

 

 

The major driving force of the development of the technology sector in Ukraine has been the concentration of the high-tech industries on its territory that require highly skilled specialists in the fields of physics, mathematics, engineering, chemistry and cybernetics. Ukraine served as a “technological incubator” for the USSR and Eastern Europe, often pioneering know-how in such sectors as cybernetics, avionics and aviation, advanced welding technologies, space and missile manufacturing. The exact science school in these fields is still considered one of the strongest in Europe. 

 

Computer software

·         Current volume of production for domestic consumption – around $39m. Domestic software development will grow mostly in the business segment, which can generate higher demand and insure piracy protection.

 

Ukraine’s expanding private sector and highly educated population are requiring various software solutions and packages. More legitimate and transparent market for computer software is slowly developing with an increasing demand for specialized financial, statistical, management and manufacturing software, presenting opportunities for both local and international companies.

 

The volume of software and related services produced by Ukrainian companies in 2001 was around $77m ($65m in 2000, source - Ukrainian Association of Software Developers (UASWD). The offshore programming segment is a major contributor to the growth of the industry. The volume of licensed software sold in Ukraine by international companies or their distributors is estimated at $13m, while pirated software sales in 2000 constituted roughly $29m.

 

Ukraine has a large pool of labor resources. Experts estimate that there are some 40,000 – 60,000 persons potentially capable (after short further training) to work as programmers and 5,000 – 6,000 persons already engaged in programming as primary activity. According to the UASWD, there are more than 800 software-developing companies in Ukraine.

 

 

Offshore programming

·         Current market size – about $38m. We expect this industry to grow sharply over the next few years.

·         Coming consolidation among players will create several large companies capable of running large-scale projects.

 

The emergence and rapid growth of offshore software development industry provides excellent opportunities to use the potential of local programmers. Ukraine has specialists to work at all levels of outsourcing: from simple technical “coding” to carrying out of full-scale system integration projects. In 2001, the Ukrainian offshore software market grew to $38m from $35m in 2000.

The country possesses clear competitive advantages on the international market: low labor costs, a vast pool of talents, experience in R&D, developed telecommunication networks, favorable location, stability of electric power industry, and western type of culture.

 

 

Computer hardware

·         Around 490 companies are engaged in PC manufacturing, 11 of them account for 90% of sector revenues.

·         Currently large PC manufacturing is performed by system integrators

·         Opportunities for making PC manufacturing a stand-alone business will appear with the development of SOHO market. 

 

Recent development of the PC fleet has given significant impulse to the development of the hi-tech sector in the country, and continues to be a driving force in the sector. We estimate that as of early 2002 there were 1.3 million PCs in Ukraine, with only 10%-15% installed for the home use purposes. Around 30% of all 200 thousand computers sold in Ukraine in 2001 were purchased to substitute faulty and obsolete PCs.

There is a stable tendency of import substitution by the local PC manufacturing (table 13).

 

Table 13. The Structure of the PC Market in Ukraine, 1996-2000

	1996	1997	1998	1999	2000
Name Brand PCs	21%	20%	15%	13%	10%
Locally Assembled PCs	65%	72%	77%	82%	86%
Imported Non Brand PCs	15%	8%	8%	5%	4%
Total Unit Shipments	96,000	130,000	139,000	141,501	165,690

Source: IDC, 2001

 

Size of Ukraine’s market of computer hardware in 2000 and 2001 was estimated at $169m and $209m correspondingly, while the projection for 2002 is $260m (24% growth), assuming 4%-6% general economic growth and market liberalization (chart 9) (Source: IDC).

 

Ongoing solid growth in export oriented industries, as well as massive privatization leading to increased effectiveness of industry; generate a substantial increase in demand for computer hardware. Finally, a number of government-funded IT educational programs for schools will likely increase the market share of low cost locally assembled PCs.

 

 

Radio, telecommunications, and other equipment

·         We expect a significant increase in demand for the domestically produced equipment as a result of privatization of Ukrtelecom.

 

Local production of the telecommunication and other equipment is on the rise caused by growing demand on the part of local operators. Ukrtelecom alone, which mostly buys imported equipment, annually purchases more than $60m of locally manufactured equipment. We expect that the local producers will start taking market share away from foreign competitors, the main reason being that locally produced equipment is cheaper than imported analogs.

 

 

Copyright 2002 AVentures. All rights reserved. Any unauthorized use or disclosure is prohibited. The information herein was obtained from various sources; we do not guarantee its accuracy or completeness. Additional information is available. AVentures or its affiliates may from time to time perform investment banking or other services for, or solicit investment banking or other business from, any entity mentioned in this report. This research report is prepared for general circulation and is circulated for general information only. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person or entity that may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities; investment strategies or entities discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Past performance is not necessarily a guide to future performance. Foreign currency rates of exchange may adversely affect the value, price or income of any security or related investment mentioned in this report.

 

AVentures is a private investment banking and venture capital firm working in the TMT sector (telecommunications, media and technology) in CEE/CIS, primarily Ukraine and Russia. AVentures was established in 1994 in response to the growing interest in the Ukrainian TMT sector on the part of domestic and foreign investors. It has since participated in launching and implementing a number of successful projects, such as electronics manufacturer and retailer Unitrade, system integrator Megatelecom, fixed-line operator Universal Telecom, and Publishing House DK Zvyazok. AVentures is currently developing several projects in the areas of software development, the Internet, and telecommunications.

Our team of investment bankers and IT/telecom professionals successfully leverages the company’s long-term strategic relationships and unique in-depth expertise in Ukraine's TMT market. This gives us an ability to provide high quality financial advisory services. We are currently working on establishing the first Ukrainian venture fund specializing in investing in the TMT sector.

 

For questions regarding this report, please contact Yuri Belinsky, Associate

Tel. (+380 44) 461-9261
Fax (+380 44) 246-8496
E-mail: info@aventures.biz

www.aventures.biz