The Ukrainian government was compelled to step in and nationalize PAO KB Privatbank to restore stability to the country's financial sector when it became clear the lender's private owners would not recapitalize it, Ukraine's Finance Minister Oleksandr Danylyuk said Dec. 19.

"We nationalized it to stabilize the financial system," Danylyuk told S&P Global Market Intelligence. He said the full extent of the damage in the books of the country's largest and most controversial lender will only be known after an audit.

Holding more than a third of the country's deposits, PrivatBank was considered too big to fail, but years of poor lending practices and mismanagement meant that without fresh funding, it risked collapse. Its diminishing capital reserves worried the government as well as foreign investors and financial institutions such as the International Monetary Fund, which said the bank posed a threat to economic stability.

The National Bank of Ukraine declared the bank insolvent Dec. 18 and submitted a proposal for the government to take it over immediately. Hours later, the bank was fully nationalized.

"This is not a totally unexpected decision," the finance minister said. "There was a stress test [in 2015] which found the bank didn't have enough capital and a special plan was agreed, but the requirements were not met."

Eurobonds issued by the bank will be written off, the government announced. Deposits will be protected and the daily activity of the bank will continue as usual.

"The nationalization was a bold, important decision," said Danylyuk. "It is the biggest and maybe the most important step we took towards cleaning up the banking sector."

Ukraine has canceled the licenses of over 80 banks in recent years, in an attempt to rid itself of fraudulent financial operators. As recently as Dec. 14, spokespeople for PrivatBank denied nationalization rumors, denouncing them as false. The central bank estimated that 38% of PrivatBank's loan book is given to parties related to its shareholders. The Ukrainian state is now going to inject 148 billion hryvnia, or about €5.4 billion, to return PrivatBank to solvency. The bank had 271.5 billion hryvnia in assets at Sept. 30, 2016, according to S&P Global Market Intelligence data.

"We plan to reprivatize it as soon as it's put in order," the finance minister said.

A thorough examination of the books was required to settle all questions as to the full extent of related-party transactions, he said.

"The 148 billion figure could get smaller. That is the maximum amount," Danylyuk said. "We will know the real situation after an audit is completed."

Danylyuk did not know when the audit would be completed.

The European Bank for Reconstruction & Development has been advising on the nationalization and will continue to provide counsel to the new management, EBRD President Suma Chakrabarti said Dec. 19.

"I strongly support the decision of the government of Ukraine to nationalize PrivatBank, and to protect its depositors, both private individuals and businesses," Chakrabarti said in a statement, adding that "the steps taken today by the government and the National Bank, in cooperation with existing shareholders, are the most viable way of securing the bank's future, and ultimately of strengthening the wider banking system."

"A respected Western firm," which the EBRD did not name, will also advise PrivatBank, Chakrabarti said.

An EBRD spokesman told S&P Global Market Intelligence that the London-based development bank is not planning to take an equity stake in PrivatBank, "at least for now."

For its part, the IMF also came out in support of the deal. "This decision was taken to ensure the smooth operations of the bank given its systemic role in Ukraine's financial system, and in view of insufficient efforts to strengthen its capital adequacy in recent months," IMF head Christine Lagarde said in a separately issued statement.

"It is now important that the process of nationalization be followed by firm efforts to maximize the repayment of related-party loans, and the appointment of an independent management team to restore the bank's viability," Lagarde added.

Both Chakrabarti and Danylyuk emphasized that the nationalization was undertaken with the cooperation of the shareholders.

Danylyuk said the former shareholders had agreed to "provide additional guarantees" that the outstanding loans will be repaid. "They wanted to make sure they are not going to be held responsible for the insolvency of the bank."

Ihor Kolomoyskyi, the controlling shareholder prior to nationalization, is a highly influential billionaire businessman. Under his stewardship, PrivatBank has been linked with multiple scandals, including embezzlement, fraud, money laundering and improper lending to parties related to shareholders and management. Between 2014 and 2015, at the height of the military conflict, Kolomoyskyi was the governor of Dnipropetrovsk Oblast, a province in Eastern Ukraine. PrivatBank's head office is in Dnipropetrovsk.

As of Dec. 16 US$1 was equivalent to 26.23 Ukrainian hryvnia.