Gulf's first step into Russian energy

Dubai: World's decision to diversify into the Russian energy market with its joint takeover of OGK-1 is certainly a bold move.

The deal, worth over $5 billion, requires DW to make an initial investment guarantee of $100 million, on the basis that further funding for the full amount can be secured alongside Russian partner Roskommunenergo.

The deal marks the first Gulf entry into the Russian energy sector, and some analysts in the GCC believe it could be the first of many, following former Russian President Vladimir Putin's efforts to strengthen ties with the region.

It is easy to see why DW was drawn to OGK-1. It is Russia's biggest wholesale generator, currently producing 9.5GW of power, with plans to increase to 12.5GW by 2012.

The Russian economy is expanding at an impressive rate - currently over seven per cent a year - and demand for power is surging.

Moreover, the energy market is due to be liberalised in 2011, with prices due to be set by the market, as opposed to a government regulator.

The Russian energy sector is clearly an attractive investment opportunity - yet it is not without risk. The World Bank's Doing Business report for 2008 places Russia way down the table at 106 (out of 178), with particularly poor ratings for dealing with licences (177) and cross border trade (155).

The Heritage Index is even more scathing - ranking Russia 40 out of 41 in Europe, and marking it down an average 2.5 points year on year from 2007 (one of the biggest declines).

One particular score worth noting is Russia's tally on freedom from corruption: 25 per cent. Heritage makes mention specifically of "kickbacks in the procurement process", noting that "corruption remains pervasive".

Such issues have thwarted the investment attempts of others within Russia's energy sector.

BP in particular has had a rough time: its Moscow offices were raided by the security services, it was strong-armed into divesting 63 per cent of its stake in the giant Kovykta field in East Siberia, and its joint venture, TNK-BP, is currently facing pressure from shareholders (some 150 visas for foreign workers were recently refused, allegedly having been deliberately completed incorrectly).

As ever in Russia, politics is a necessary part of the price of doing business, and political capital is as important as the paper sort. In this sense, Dubai World has made a wise choice of partner.

Roskommunenergo's chairman is Igor Kozhin, son of Vladimir Kozhin, a Kremlin insider who has run the property department since 2000, when he was appointed to the role by Vladimir Putin.

Proximity to the wheels of power remains a precondition for anyone wishing to buy out a major player in Russia's energy sector.

If there is a risk, it is of Dubai World suffering a similar fate to BP, and certain other foreign investors: forced to divest further down the line by a change of sentiment in the Kremlin.

Dubai World obviously feels confident enough that such an event will not come to pass. Much will depend though on the extent to which new President Dmitry Medvedev is able (or willing) to carry through with his pledge to strengthen the rule of law in Russia. Only time will tell if this particular gamble will pay off.

The writer is Middle East specialist and Oxford Business Group's regional editor in the GCC.