VEOLIA WATER CENTRAL LIMITED ANNUAL REPORT AND FINANCIAL STATEMENTS FOR THE YEAR ENDED 31 MARCH 2012 (Registered Number 2546950) Veolia Water Central Limited Contents Page Chairman’s Statement .................................................................................... 3 Directors ......................................................................................................... 5 Board Committees, Executives and Advisers ................................................ 6 Report of the Directors ................................................................................... 7 Corporate Governance Report ....................................................................... 14 Remuneration Report ..................................................................................... 18 Independent Auditor’s Report ........................................................................ 21 Profit and Loss Account ................................................................................. 23 Statement of Total Recognised Gains and Losses ........................................ 24 Note of Historical Cost Profits and Losses ..................................................... 25 Balance Sheet ................................................................................................ 26 Cash Flow Statement ..................................................................................... 27 Notes to the Cash Flow Statement ................................................................ 28 Notes to the Financial Statements ................................................................. 29 Financial Statistics ......................................................................................... 53 Area of Supply .. ............................................................................................. Back Page 2 Veolia Water Central Limited Chairman’s Statement I am pleased to present the Statutory Accounts for the year ended 31 March 2012. During the year, we have made significant improvements to our operational, asset and customer service performance. The achievements include: 1. 99.99% mean zonal water quality compliance; 2. 15% reduction in the number of burst mains, allowing our water network assets to be assessed as “stable” in terms of serviceability; 3. a reduction in leakage rates of more than 10%, saving more than 20 million litres per day compared to the leakage target which Ofwat set us; 4. 24% reduction in written complaints; and 5. 10% reduction in unwanted telephone contact, being contact from customers which we consider to be preventable and avoidable. We invested £80m in the period on maintaining and renewing our assets. A key component of our investment programme has been our water network replacement programme. We replaced 134km of water mains in the last twelve months. Since 2008, we have placed the health and safety of our people and the public at the top of our priorities. Whilst we have seen reductions in the frequency of reportable accidents, our overall company performance needs to continue to improve. Our financial performance over the past twelve months improved significantly. Our turnover increased to £253m (2011: £240m), in line with inflation. We achieved operating cost efficiencies allowing our operating costs to remain broadly stable at £188m (2011: £187m) despite increased bad debt expense and insurance costs as well as inflationary cost pressures. We achieved a profit of £4m on the sale of properties (2011: £1m loss) and interest expense remained stable at £20m. Our overall profit after tax for the year was £36m (2011: £21m). During the last two consecutive autumn and winter periods there has been below average rainfall in our area, resulting in very low groundwater recharge (two-thirds of our resources are groundwater). During the year our groundwater declined to the level we class as severe drought. We responded as required by our drought management plan, which sets out the measures we need to take to manage water supplies, depending on the severity of the drought conditions. We introduced a temporary use ban on 5 April 2012 along with six other water companies in the South East of England. We have stepped up publicity about drought and water efficiency measures to increase awareness amongst our customers and encourage them to use water carefully. Over the summer, we will be making greater use of surface water sources in order to alleviate the environmental effects of our groundwater abstraction on chalk rivers and streams in our area. Following discussions with Ofwat during 2011, we made a formal application to Ofwat on 23 February 2012 to unify Veolia Water Central Limited, Veolia Water East Limited and Veolia Water Southeast Limited so as to operate the three areas under a single licence. The next stage of the unification process was a period of formal public consultation by Ofwat. This closed on 20 April 2012, and at the date of signing these financial statements we are awaiting Ofwat’s decision. On 6 December 2011, the company’s ultimate parent company and controlling party, Veolia Environnement SA, announced its intention to sell its regulated water interests in the UK, including Veolia Water Central Limited. The sale is expected to be completed in 2012. 3 Veolia Water Central Limited Directors O Bret (Chairman from 25 January 2012) Olivier Bret is French and was appointed a director and Chairman on 25 January 2012. He is also the Chief Executive Officer of Veolia Water UK Plc and a director of Veolia Water Central Finance Plc, Veolia Environnement UK Limited and a number of other Veolia Water UK Plc subsidiaries. R A Bienfait (Managing Director) Richard Bienfait is British and was appointed a director in 2006. He was appointed Managing Director in 2010. He is also a Director of Veolia Water Central Finance Plc, Veolia Water UK Plc and other Veolia Water UK Plc subsidiaries. Baroness Buscombe Baroness Buscombe is British and was appointed a director in 2006. She is a barrister, a member of the House of Lords and has held a number of Shadow Ministerial positions. She was formerly chairman of the Press Complaints Commission. F Devos (Chairman until 25 January 2012) Frederic Devos is French and resigned as a director and Chairman on 25 January 2012. P Guitard Philippe Guitard is French and was appointed a director in 2008. He is Executive Vice President Europe of Veolia Water SA. O Grunberg Olivier Grunberg is French and was appointed a director in 2008. He is the General Secretary of Veolia Transdev. Dr N W Summerton CB Neil Summerton is British and was appointed a director in 2000 having been a director of North Surrey Water Limited from 1998 to 2000. He was appointed chairman of the Audit Committee in 2009. He is also a director of Veolia Water South East Limited and from 1991 to 1997 was responsible for water policy at the Department of the Environment. F Woolf CBE Fiona Woolf is British and was appointed a director in 2006. She is an Alderman in the City of London, a Member of the Competition Commission, a Consultant with CMS Cameron McKenna and a trustee of Raleigh International. 5 Veolia Water Central Limited Board Committees, Executives and Advisers Audit Committee Dr N W Summerton (Chairman) Baroness Buscombe M Butcher (to 30 April 2012) F Woolf Executive Management Committee R A Bienfait (Chairman) D Bates (from 1 March 2012) O Bret (from 25 January 2012) G Chalkley (to 31 August 2011) A Dench F Devos (to 25 January 2012) S Martin A McAlinden (from 31 March 2012) T Monod V Muldoon N Paterson M Rowlatt (to 31 March 2012) Remuneration and Employment Committee O Bret (Chairman) (from 25 January 2012) F Devos (Chairman) (to 25 January 2012) Dr N W Summerton Company Secretary and Registered Office T J W Monod Tamblin Way Hatfield Hertfordshire AL10 9EZ Registered Auditors Ernst & Young LLP 1 More London Place London SE1 2AF 6 Veolia Water Central Limited Report of the Directors Introduction The directors present their report and the audited statutory financial statements for the year ended 31 March 2012. Principal activity The principal activity of the company is the supply of water and related services to approximately three million people and businesses in an area of 3,738 square kilometres of Berkshire, Buckinghamshire, Hertfordshire, Bedfordshire, Essex, Surrey and several London Boroughs. Directors The directors of the company, together with their periods of office and their biographical details, are shown on page 5. Going concern In December 2011 the company’s ultimate parent company and controlling party, Veolia Environnement SA, announced the intent to sell its UK regulated water interests, including Veolia Water Central Limited. Whilst the intentions of future shareholders and directors of the company cannot be anticipated, the current directors believe that, given the nature of the company’s operations, the company will continue trading for the foreseeable future. The latest approved financial projections produced by the directors show that the company will continue to be profitable and continue to generate positive cash flows. The company made a profit in the financial year and has net assets which are considered to be fully recoverable and, on this basis, the directors believe it is appropriate to prepare the accounts on a going concern basis. Directors’ qualifying third party indemnity provisions The company has granted an indemnity to one or more of its directors against liability in respect of proceedings brought by third parties, subject to the conditions set out in Section 234 of the Companies Act 2006. Such qualifying third party indemnity provision remains in force as at the date of approving the directors' report. Statement of directors’ responsibilities The directors are responsible for preparing the annual report and the financial statements in accordance with applicable laws and regulations. Company law requires the directors to prepare financial statements for each financial year. Under that law the directors have elected to prepare the financial statements in accordance with United Kingdom Generally Accepted Accounting Practice (United Kingdom Accounting Standards and applicable law). Under company law, the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the company and of the profit or loss of the company for that period. In preparing those financial statements, the directors are required to: • select suitable accounting policies and then apply them consistently • make judgements and accounting estimates that are reasonable and prudent • state whether applicable UK Accounting Standards have been followed, subject to any material departures disclosed and explained in the financial statements • prepare the financial statements on the going concern basis unless it is inappropriate to presume that the company will continue in business, and • be responsible for the maintenance and integrity of the website on which the financial statements have been published. 7 Veolia Water Central Limited Report of the Directors (continued) The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the company’s transactions, disclose with reasonable accuracy at any time the financial position of the company and enable them to ensure that the financial statements comply with the Companies Act 2006. They are also responsible for safeguarding the assets of the company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. Business review and financial performance The company’s vision is to be the leading community-focused water company, being leading in the eyes of the communities we serve, our people, our regulator and other stakeholders. We aim to continue to build credibility with key stakeholders by achieving good business performance. Our strategic priorities are to: • Demonstrate great asset management • Provide a high quality, highly visible customer experience • Develop a team-based, collaborative organisation to support commercial performance • Apply proven technology to drive effectiveness and efficiency • Obtain a favourable determination from Ofwat at PR14. To measure our operational performance, we have established 8 key performance targets. Achievement of these targets, each quarter, results in a bonus at the end of the year for all staff. Our ultimate aim is to achieve improved performance in: • Health and safety • Water quality • Unplanned interruptions to supply • Written complaints • Leakage • Unwanted contact • Customer experience • Operating cash flow The company is a regulated business and has important obligations enforced by three regulators, being the Water Services Regulation Authority (Ofwat), the Environment Agency, and the Drinking Water Inspectorate. The business is effectively a regional monopoly and is subject to incentive-based economic regulation by Ofwat. Ofwat imposes caps on increases in customer prices and seeks to reward efficiency and high standards of customer service, whilst penalising inefficiency and poor standards of customer service. Instruments of appointment (licences) for the provision of water supply were awarded in 1989 and continue in force for an indefinite period subject to termination on 25 years notice with more immediate revocation in certain specific circumstances (such as, for example, a failure to comply with an enforcement order made by Ofwat). Price limits are set by Ofwat every five years through a periodic review. The last review was completed in November 2009 and imposed price limits for the period 2010/11 to 2014/15. During a periodic review, Ofwat considers the scale of the company’s capital investment programme, the cost of capital, operational and environmental obligations, and operating expenditure as well as assessing the scope to improve efficiency. Ofwat determines price limits by reference to the company’s income for the previous year, adjusting for inflation (headline RPI). This determination factor is known as ‘k’ and can be a positive or negative percentage value. The company’s regulated tariff evolves annually by RPI and ‘k’. RPI for 2011/12 is 4.7% (2010/11: 0.3%) and ‘k’ for 2011/12 is 0.8% (2010/11: 1.4%). 8 Veolia Water Central Limited Report of the Directors (continued) The water industry is subject to substantial domestic and European Union legislation which imposes significant statutory obligations on the company concerning, among other factors, the quality of treated water supplied. Environmental policy and proposals for legislation are the responsibility of the Secretary of State for the Environment, Food and Rural Affairs. The following bodies are responsible for applying legislative requirements to water companies: • The Environment Agency, responsible for conserving and redistributing water resources and securing the proper use of those resources, including the licensing of water abstraction; • The Drinking Water Inspectorate, which enforces drinking water quality standards; and • Natural England, which is responsible for the protection of designated sites for nature conservation. Risk and uncertainty The company has a formal and continuous process for identifying, evaluating and managing the key risks faced. Risks, both strategic and operational, are reviewed and discussed at the Executive Management Committee (EMC). A key aim is to foster a culture in which staff throughout the business manage all risks as part of their management of day to day operations. The Audit Committee reviews the EMC’s work on risk management and reports to the Board on significant risks. The main risks and uncertainties that the company has identified are: • maintaining supplies in the event of a third dry winter • maintaining infrastructure serviceability • meeting leakage targets • maintaining high levels of water quality • achieving the efficiency target set in the Final Determination • loss of IT systems • deterioration in the level of customer debt due to the economic climate • risks associated with change and, more specifically, the impact on people from restructuring. Each of the key risks has a ‘risk owner’ from the senior management team who is responsible for establishing appropriate controls to mitigate the risks as far as possible. In addition to these main risks, other identified risks are allocated to specific risk owners. Operational performance during the year ended 31 March 2012 Key achievements during the year were: • 99.99% mean zonal water quality compliance; • 15% reduction in the number of burst mains, allowing our water network assets to be assessed as “stable” in terms of serviceability; • a reduction in leakage rates of more than 10%, saving more than 20 million litres per day compared to the leakage target which Ofwat set us; • 24% reduction in written complaints; and • 10% reduction in unwanted telephone contact, being contact from customers which we consider to be preventable and avoidable. A consistent set of health and safety standards are deployed across all contractors working on the capital and opex programmes. These standards are robustly monitored by project managers who conduct monthly audits which are then reported to the EMC. 9 Veolia Water Central Limited Report of the Directors (continued) We continue to play a central part in contributing to Veolia Water UK’s performance as one of the top ranking companies in the last annual ‘Business in the Community Top 100 Companies that Count’ survey, in association with The Sunday Times. In this survey Veolia Water UK Plc retained its Platinum status which is external recognition of how we continuously improve performance for the benefit of society and the environment. Future developments We manage the business in the long-term interests of customers, the public and the shareholder. At the same time we are looking to improve our short-term measures of performance and to achieve the outputs expected by our regulators. Following discussions with Ofwat during 2011, we made a formal application to Ofwat on 23 February 2012 to unify Veolia Water Central Limited, Veolia Water East Limited and Veolia Water Southeast Limited so as to operate the three areas under a single licence. The next stage of the unification process was a period of formal public consultation by Ofwat. This closed on 20 April 2012, and at the date of signing these financial statements we are awaiting Ofwat’s decision. On 6 December 2011, the company’s ultimate parent company and controlling party, Veolia Environnement SA, announced its intention to sell its regulated water interests in the UK, including Veolia Water Central Limited. The sale is expected to be completed in 2012. During the last two consecutive autumn and winter periods there has been below average rainfall in our area, resulting in very low groundwater recharge (two-thirds of our resources are groundwater). During the year our groundwater declined to the level we class as severe drought. We responded as required by our drought management plan, which sets out the measures we need to take to manage water supplies, depending on the severity of the drought conditions. We introduced a temporary use ban on 5 April 2012 along with six other water companies in the South East of England. We have stepped up publicity about drought and water efficiency measures to increase awareness amongst our customers and encourage them to use water carefully. Over the summer, we will be making greater use of surface water sources in order to alleviate the environmental effects of our groundwater abstraction on chalk rivers and streams in our area. Financial performance for the year ended 31 March 2012 Turnover Turnover of £253.0m (2011: £239.6m) increased by £13.4m, in line with inflation. Operating expenditure Operating expenditure has increased by £1.5m to £188.0m (2011: £186.5m). Depreciation has increased by £2.5m and is explained below. There has been an increase in the bad debt provision of £1.6m partly due to poorer collection rates on unmeasured customers due to the uncertain economic climate and partly reflective of the fact that last year’s numbers included a reduction in provision of £1.3m following a refinement in the way that the doubtful debts provision was estimated. There has been an increase in insurance costs in relation to premiums and uninsured losses of £1.7m during the year. Efficiencies have been made, resulting in lowering costs in management and finance, customer services and operations through process improvement and better communication. Depreciation Depreciation has increased by £2.5m to £32.7m (2011: £30.2m). The introduction of new ultraviolet technology has resulted in some accelerated depreciation of our existing cryptosporidium barrier assets during the year. 10