After plans to merge IDGC Holding with FGC UES were announced by the Russian government, analysts said that the provided statements were too vague, as the reorganization scheme was unclear, but provided the idea of the merger is positive in the long-term. However, analysts are worried about the minority shareholders of IDGC Holding and fear that the reorganization procedures will linger privatization of the companies included into the holding.

The government recently decided to transfer state-controlled power utility IDGC Holding, which manages distribution grids with a tension of up to 220 kilovolt (kV), into the management of state-controlled Federal Grid Company of Unified Energy Systems (FGC UES), which manages Russia's trunk grids with a tension of at least 220 kV, as provided by both companies and the Energy Ministry. A government directive has already been issued and a final decision is to be put to a vote by IDGC Holding's shareholders at an annual general meeting on June 26, while the reorganization could be completed by July 1, a representative of the Energy Ministry said on May 11.

The Energy Ministry believes the transfer will increase the efficiency of the Russian electric power sector. "This decision will allow for ensuring a unified approach and coordinated work in managing the grid complex; maximizing the potential of the two companies, and significantly increase the reliability of electric power supplies to consumers. This will also significantly speed up lifting restrictions on technological connections," the Energy Ministry said citing Dmitry Klokov, an adviser to the energy minister.

On the announced news, shares of IDGC Holding closed 10.01% lower on the Moscow

Interbank Currency Exchange on May 11, while FGC UES shares were down 8.28%.

On May 14, acting Deputy Prime Minister Igor Sechin confirmed plans to reorganize the grid complex, saying that IDGC Holding and FGC UES were expected to be merged into a unified power grid company, but provided no terms of the deal. After Sechin's statement, shares of IDGC Holding and FGC UES again showed a decline.

Despite Sechin's statement, it is still not precisely clear how the reorganization of the grid complex will be made, whether the holding would be just transferred into the management of FGC UES or merged with this company at a later date, or be liquidated.

Irina Filatova, a utilities analyst at investment company BCS, believes that at the initial stage IDGC Holding will be just managed by FGC UES and a controlling stake in the holding could be transferred to FGC UES during an additional share offering. The analyst also believes that IDGC Holding will not be liquidated, because in this case the government will lose its control over the holding's companies. She also said it was unlikely that the two companies will be switched to a single share, as this would require vast expenditures.

Alexander Kornilov, a senior analyst covering the electric power sector at Alfa-Bank, also believes that IDGC Holding will be most likely merged into FGC UES, which could be made via an additional share offering of FGC UES.

NOMOS-Bank utilities analyst Mikhail Lyamin believes that "FGC UES will receive control over troubled regional distribution companies (primarily Siberia IDGC and North Caucasus IDGC), while the remaining grid companies will be privatized or transferred into the management of strategic investors."

On the whole, the surveyed analysts positively estimated the idea of transferring IDGC Holding into the management of FGC UES, saying the process was aimed at synchronizing the work of the entire power grid complex. "In the long run, it is a very good idea," Filatova from BCS said.

Kornilov from Alfa-Bank said that "the unification of IDGC Holding and FGC UES is logical, as the companies interact closely and IDGC Holding is practically a continuation of FGC UES' business." The analyst believes the unification of similar businesses may have a synergy effect.

The analyst also noted that investors were prone to giving preference to FGC UES shares, as the company's business seemed to be stable, while the consolidation of distribution grids brings uncertainty and complications to FGC UES. FGC UES will now have to undertake the problems of IDGC Holding and could become less preferable for investors, the analyst said.

Kornilov also said he was worried about the minority shareholders of IDGC Holding, as statements that the holding could be liquidated have been made. The analyst is puzzled by the holding's possible liquidation, as the holding has a great number of shareholders and its shares are included into the MSCI Index.

Utilities analysts at investment company Metropol noted that the government's decision to transfer IDGC Holding into the management of FGC UES was caused mainly by the inability of the holding's management to solve the problem of cross subsidizing and unwillingness to carry out the privatization of subsidiaries.

However, some analysts reacted quite negatively to the proposed plans. "We believe the news is a negative development, as the consolidation of trunk and distribution grid assets on the basis of FGC UES means rolling back the reform of the grid complex and - at a minimum - stalling the privatization process," TKB Capital utilities analyst Alexei Serov said.

"Moreover, we believe that the transfer of a distribution segment into management of FGC UES increases the probability of introducing a unified grid tariff without dividing it into separate transportation and distribution, as only this sort of step can solve the problem of cross subsidizing," Serov said. "Under our estimates, the implementation of the scheme to consolidate the grid segment increases the probability of abolishing RAB (regulatory asset base) regulation for IDGCs or a further delay in approving its parameters," he said.

Some analysts also expressed concerns that plans to merge IDGC Holding and FGC UES would hinder the privatization of companies included into the holding.

Established on in July 2008 as part of electric power holding UES’ reorganization, IDGC Holding currently comprises 11 interregional distribution grid companies (IDGCs) and several regional grid companies tied to a certain region, such as Kubanenergo, Tomsk Distribution Company, and Yantarenergo. Under legislation adopted at that time, the government had to retain control over IDGC Holding and all companies incorporated into the holding until January 1, 2011. In March 2011, then-President Dmitry Medvedev said that distribution grid companies were mostly responsible for hikes in power prices for end users and ordered the privatization and transfer of the companies of IDGC Holding into private management be sped up. Following this, the holding agreed to transfer the management of the Tomsk Distribution Company to Electricite Reseau Distribution France, 100%-owned by French electric power utility Electricite de France, and also planned to transfer the management of the United Moscow Power Grid Company (MOESK) over to Gazprombank, but the deal did not receive approval from Russia’s antimonopoly bodies.

The holding later announced plans to begin the privatization of one of its units in 2012.

"The privatization of companies included into IDGC Holding remains a key question. If the government drops plans to privatize IDGCs, this will be a step back - a turn away from reform, which implied dividing grids into trunk and distribution," Kornilov from Alfa-Bank said. The analyst believes the corporate procedure of the merger is very difficult and is likely to jeopardize the privatization. "The idea of privatizing one of the holding's subsidiaries in 2012 is doomed to failure," Kornilov said.

Utilities analysts at UralSib Capital also believe the privatization could be delayed, saying that "the restructuring of IDGC Holding is unlikely to contribute in accelerating the privatization in the sector, which, on the contrary, could be postponed until the indicated structured transformations are completed."

Meanwhile, Filatova from BCS believes the transfer of IDGC Holding into the management of FGC UES will not impede privatization plans. "The deal doesn't abolish the privatization plans and doesn't impede this process. Privatization of IDGCs will thus become one of FGC UES' tasks," she said.

Investcafe analyst Vyacheslav Novozhilov projects an accelerated privatization of IDGCs.

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