East Surrey Holdings
A public 'multi-utility' that operated infrastructure businesses in the UK
East Surrey Holdings (ESH) had three core operations: East Surrey Pipelines (ESP), a gas distribution business in Great Britain; Sutton and East Surrey Water (SESW), a water supplier in the South of England; and Phoenix Natural Gas (Phoenix) a gas distribution business in Northern Ireland.
Asset-Backed: ESH was an asset-rich business and, between the three divisions, it owned and operated 3,000 km of distribution pipeline as well as several reservoirs and water treatment plants.
Requiring Fundamental Change: The group’s multi-utility strategy brought no operational or strategic synergies, no regulatory synergies and no capital advantages as the UK market did not separately value risk and opportunity profiles.
- The group provided the perfect opportunity to separate and reposition the assets, change the risk profile of the cash flows, resolve the regulatory uncertainty and transform both the value of the assets and the market of potential purchasers.
- The ex-growth SESW division represented a good near-term opportunity for sale to yield investors and was sold to an infrastructure investor in January 2006.
- ESP was merged with BGCL, which Terra Firma acquired from Centrica, to create one of the largest gas distributors in the UK.
- Terra Firma retained Phoenix until 2013, recognising its strong growth prospects. The business achieved a 55% increase in natural gas penetration across Belfast and committed to achieving an overall market penetration of 60% by 2016 through continued investment.
- The group management was simplifed, thereby reducing central costs while empowering and professionalising divisional management. This also freed up management time to focus on the transformation of the business units.
- Phoenix’s strong management team has built the Phoenix business into what is widely regarded as a world-class benchmark of best practice in gas infrastructure development.
Developing through capital expenditure
- Further growth in the ESP and Phoenix networks and an increase in customer connections were driven by accelerating the capital investment programme and setting appropriate return targets.
- Terra Firma supported a continual programme of capital expenditure which enabled Phoenix to convert 45% of the potential market in Belfast to natural gas. Investment continued with the aim to make gas available to an additional 33,000 properties by 2016.
- Phoenix attracted new customers and expanded its network by offering its customers efficient energy production and more appealing appliances. The business achieved a significant increase in natural gas penetration across Greater Belfast and committed to converting 60% of properties along its distribution network into connected customers by 2016.
Building through mergers and acquisitions
- The scale of ESP was substantially increased through the acquisition of BGCL, Centrica's gas transportation system in the UK.
- BGCL came to be known as ESP Connections, adding 136,000 gas connections and a contracted order book of a further 38,000 connections. The bolt-on reinforced ESP’s position as the third-largest player in the UK and allowed for a more professional ESP management function.
Lowering the cost of capital to create extra upside
- At acquisition, ESH was a relatively immature regulated utility and the development and regulatory risks were hampering the development of an appropriate financial structure and driving its high cost of capital. The divisional break-up allowed Terra Firma to focus on stabilising the regulation issues, especially for Phoenix in Northern Ireland.
- Terra Firma and Phoenix worked together with the regulatory authorities in 2006 to agree a mutually satisfactory regulatory framework with transparent and stable gas prices. Establishing a more stable regulatory environment following the 2006 agreement served to lower Phoenix's cost of capital and enabled investment decisions to be taken with greater confidence.
Status of Investment: The ESH investment has been fully realised. ESH sold SESW and ESP to infrastructure investors in 2006,leaving the Phoenix Natural Gas business, comprising Gas Supply, Distribution and Transmission. Phoenix sold its Transmission division in 2008, the Supply businesses in 2012 and in August 2013, Terra Firma sold the Phoenix Gas Distribution business to Utilities Trust of Australia and The Royal Bank of Scotland Group Pension Fund.