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3 January, 2021
Ukraine’s Defence and Security sector in 2020. What will we remember it for?

In 2020 Ukraine scored 41 out of 100 or Band D in the Transparency International’s global Government Defence Integrity Index. This is the only index in the world assessing the level of corruption risks in the defence and security sector worldwide and the ability of state institutions to effectively control such risks.

Five years ago, Ukraine was also placed in Band D. However,since then, we have managed to significantly improve our index figures, in particular as regards procurement and financial risks.

Some of the MoD procurement previously fully classified, were made public using the Prozorro system back in 2015. However, the key progress was made by Ukraine in 2020, when the Law ‘On Defence Procurement’ was adopted and Ukroboronprom corporatization and other anti-corruption changes began.

So summarizing the developments in 2020, we see some reasons for cautious optimism. There are revolutionary changes in several areas that NAKO team has concentrated its efforts on and being identified as the most corruption-prone by Transparency GDI Index five years ago.

The Law “On Defence Procurement”: a Bittersweet Victory.

In July 2020, Ukraine’s Parliament adopted the Law “On Defence Procurement”, which is undoubtedly the greatest achievement in 2020 and a revolution in defence procurement. The Law is expected to minimize corruption risks in the defence sector, namely, ensure openness of defence procurement procedures, significantly increase procurement planning transparency, and ensure effective public and democratic civil control. Thus, public funds for the procurement of defence goods, works and services are expected to be used more efficiently.

However, the implementation of the law was unsuccessful. It enters into force on January 01, 2021, but it will not be able to function properly. Together with MoD and other ministries, the newly established Ministry of Strategic Industries was supposed to develop the necessary statutory instruments, but failed to do it in time.

Ukraine’s Parliament considered postponing the entry of the law into effect by six months to save the situation and buy some time to develop the necessary documents. However, it was impossible due to some internal aspects of the Parliament’s work. Thus, from January 1 on, the two laws, the new law on defence procurement, and the previous law on the state defence order (SDO), will be in effect simultaneously. At the same time, the Law of Ukraine “On Procurement of Goods, Works and Services for Guaranteed Ensuring of the Defence Needs” shall cease to be effective from January 01, 2021. As the necessary orders and regulations are not ready yet, it will be extremely difficult to carry out “open” procedures (public procurement) in the defence sector.

Does this mean a collapse of defence procurement? It remains to be seen.

There is a risk that the process of signing contracts with manufacturers of weapons and military equipment for the needs of the Armed Forces and other customers might stop or become stalled. Neither legislators nor officials seem to figure out how to organize the process.

According to the information available to us, lawyers in the relevant key state agencies are looking for a temporary solution, for example, by amending the final provisions of the law.

However, there will be a chance to test this solution pretty soon, since from January 01, 2021 procurement for the needs of the Armed Forces and other law enforcement agencies will largely depend on it.

A Historic Change. Start of Ukroboronprom’s Corporatization

The strategic decision to start the reform of Ukroboronprom was made back in 2019 by then- Director-General Abromavicius. However, it was only in 2020 that a large-scale transformation began.

As of the end of the year 2020, the conglomerate has become much more transparent and open to dialogue with the experts and the society.

In particular, Ukroboronprom’s financial audit for 2018-2019 was carried out. Previously, our team helped draft the terms of reference and tender documents for the procurement of the audit services. We are currently waiting for the final audit results, which are expected to be published in January 2021.

A forensic audit was also carried out for Antonov state enterprise, one of the concern’s largest companies. It is aimed at discovering covert corruption schemes and fraudulent activities. Unfortunately, the findings of this audit and even the auditors’ recommendations have not been made public.

A clearly good sign is that auditing is becoming the conglomerate’s positive habit. On December 22, Ukroboronprom announced the tender for an independent audit of its enterprises for 2020 and 2021.

The selection of personnel for key positions in the conglomerate has also become more transparent. The directors of the Ukroboronprom’s enterprises were selected through a transparent competitive process. Not only government representatives, but also representatives of the embassies of partner countries and independent experts were invited to participate in the Nomination Committee's work.

Currently, Ukroboronprom carries out its procurement through Prozorro system. It allowed to save money and made it possible for the public to do anti-corruption monitoring. Let me remind you that suspicious purchases made earlier by Ukroboronprom even drew attention of The New York Times. The conglomerate has also tried to minimize corruption practices in its property lease.

However, the real breakthrough in the reform should be Ukroboronprom’s corporatization and the introduction of corporate governance standards in line with the Organisation for Economic Co-operation and Development (OECD) principles, the guidelines on corporate governance of state-owned enterprises.

Following a long period of stagnation of this reform, in December 2020, Yuriy Husiev, the conglomerate’s newly-appointed Director-General, finally signed an order to begin the corporatization process.

This was preceded by big efforts of Ukroboronprom’s team, MPs from the Parliamentary Committee on National Security, international partners and independent experts.

A triage analysis, i.e., a comprehensive assessment of all conglomerate’s enterprises, was carried out. A new corporate governance model was developed along with a detailed plan for its transformation and the required draft laws.

It was decided to create the holdings which will focus on missile production, aviation, aircraft repair, armoured vehicles, radar systems, and marine systems. In its current form, Ukroboronprom will be liquidated and replaced by a parent holding company with a supervisory board.

The basis of this transformation is the draft law No. 3822 “On Reforming the State-Owned Enterprises in the Military-Industrial Complex.”

The NAKO team has analysed the latest version of the draft law. The document enshrines the desire to implement a corporate governance model of state-owned enterprises that meets OECD standards in the military-industrial complex, which is a truly positive sign.

However, the format of exercising the powers of the State to manage the “new Ukroboronprom” during its corporatization is nowhere near the best world practice.

For example, there are two entities managing Ukroboronprom, namely the Cabinet of Ministers and the Ministry of Strategic Industries. At the same time, there is no clear distribution of powers and responsibilities between them. It is not clear who should make key decisions when it comes to transforming Ukroboronprom and approving the transformation plan, members of the supervisory board, etc.

Such approach contradicts the OECD principles stating that the powers of the State as the owner should be delegated to only one organization or body.

Despite the officials’ unanimity in public statements about a shared vision of reform, the Verkhovna Rada Committee on National Security reported differences in views on key aspects of the transformation. Hence, it is difficult to predict when exactly the Parliament will vote on this law.

The Ministry of Strategic Industries: One More Ministry in Ukraine’s Government

In July, we got another ministry in Ukraine. The Ministry of Strategic Industries (MinStrategProm) was established to manage the defence industry effectively.

NAKO has previously pointed out a number of risks related to establishing a new ministry. Many of them eventually became a reality. The pace of corporatization in the military industrial complex and reform has slowed down.

This body is also characterised by a number of potential conflicts of interest, for example, when it defines the state defence order and at the same time determines the priority areas of the future scientific and technological developments. This is a clear risk of abuse of power.

We are also concerned about the desire of the MinStrategProm to remove the six most profitable aviation enterprises from Ukroboronprom’s management and take control over them. Here we mean such companies as Antonov SE and Progress Design Bureau. This may indicate an attempt to manually operate these enterprises, as well as a possible conflict of interest.

A close attention to the new Ministry from the public and some politicians helped to halt such negative processes. Today, the Cabinet of Ministers itself continues to block the abovementioned initiative to transfer enterprises.

It’s difficult to say that the Ministry of Strategic Industries is open for dialogue with civil society. Independent experts who participated in the development of the draft law on corporatization when working on the parliamentary committee were unable to join the working group established in the MinStrategProm to finalize this draft law.

Much the same is true for the development of regulatory legal acts for the Law “On Defence Procurement”.

Brief Conclusion

Compared to 2019, in 2020 the sector witnessed a decrease in the number of reformers and leaders and an increase in the level of chaos and conflicts. Ukraine nevertheless continued its slow movement in the right direction.

I hope that next year there will be no stagnation or backtracking on reforms, but rather the accelerated transformation in the post-pandemic period.