Daily analyst comments

The Federal Securities Service (FSS) allowed TGC-5 and WGC-5 to issue depositary receipts as part of unbundling from UES. After that, UES shareholders will obtain shares in the said gencos in proportion to their stake in the power holding. In particular, FSS allowed flotation abroad of 20% (7,074,537,100 common shares) in WGC-5 and 15% (184,539,216,791 common shares) in TGC-5’s charter capital.

At the first stage of the power holding’s restructuring, owners of UES will obtain depositary receipts for shares in unbundled companies. However, as part of the second stage slated for July 2008, only some companies will be permitted to issue ADRs or GDRs. ADR owners will receive partial compensation in cash during the power holding’s restructuring which is not the best option for depositary receipts owners. The point is that Russian utilities investment instruments are few and far between on foreign stock markets. The industry is on the rise and investors would opt for shares in unbundled companies.

This difficulty is a negative for UES, since foreign investors are exposed to additional investment risks. Investors which are unwilling to receive additional cash for various reasons (reluctance to pay taxes or rebalance their portfolios) can sell shares now, since UES shares have already posted hefty gains. However, this will not likely crash the power holding’s stock valuations. In all likelihood, the rally in UES shares will have legs, since restructuring unlocks more and more factors of hidden value of UES shares.

In our opinion, UES shares still hold upside potential and represent an excellent opportunity of investments in the Russian utilities industry. Even on the bearish market, downside potential of UES’s stock valuations is limited by buyout prices for the shareholders which vote against the second stage of the company’s reorganization (for details, see our Daily dated August 06, 2007). We assign a Buy recommendation to UES shares. The fair price estimated based on the sum-of-the-parts method is $1.85 per common share and $1.67 per preferred share with upside potential of 37% and 38%, respectively.