NGG

Business Context and Reporting Period

Company: National Grid Transco plc (formed by the merger of National Grid and Lattice Group in October 2002).

Reporting Period: Fiscal year ended March 31, 2003.

Business Overview: A leading international energy delivery utility. Operations include the UK's gas transmission and distribution systems (serving ~21 million consumers) and electricity transmission in England and Wales. In the US, it operates major electricity transmission and distribution networks in the Northeast (including the full-year contribution of Niagara Mohawk, acquired in January 2002) and gas distribution in upstate New York. The company also holds non-regulated businesses in metering, communications infrastructure, and interconnectors.

Key Financial Metrics (Year Ended March 31, 2003)

*Adjusted figures exclude exceptional items and goodwill amortisation to reflect underlying performance.

Material Changes vs. Prior Period

• Revenue Growth: Turnover increased by 24% (£1,846m) primarily due to the first full-year contribution from the Niagara Mohawk acquisition in the US.
• Profitability: Adjusted operating profit rose 23% (£402m). Reported operating profit surged from £359m to £1,736m, largely driven by a significant reduction in exceptional charges (from £1,327m in 2001/02 to £347m in 2002/03).
• Segment Performance:
  • US Operations: Adjusted operating profit increased from £370m to £699m, reflecting full-year results from New York operations.
  • UK Transmission: Adjusted operating profit rose to £846m, driven by cost reductions and incentive scheme profits.
  • UK Gas Distribution: Adjusted operating profit increased slightly to £554m, aided by colder weather and cost savings, offset by higher replacement expenditure.
• Discontinued Operations: Losses from discontinued operations (primarily telecoms assets like 186k and joint ventures) decreased significantly from £496m to £194m.

Guidance, Outlook, Risks, and Unusual Items

Outlook and Guidance

• Cost Synergies: Management is confident of achieving at least £135 million in annualised synergy savings from the National Grid/Lattice merger, with the majority realized by March 2004.
• Dividend Policy: The Board aims to increase dividends per share by 5% in real terms annually through March 2006. A final dividend of 10.34p was recommended, bringing the total to 17.20p (a 7.2% increase).
• US Integration: The US business is on track to reduce controllable costs by 20% by 2004/05; 6.5% reduction achieved in 2002/03.

Risks and Contingencies

• Legal Proceedings: Transco faces an unprecedented indictment for culpable homicide in Scotland regarding a 1999 gas explosion in Larkhall that killed four people. The company is appealing a preliminary ruling.
• Safety Incidents: Three members of the public died in gas explosions associated with Transco operations during the year. The company is cooperating with investigations.
• Regulatory: Risks include changes in regulatory frameworks (e.g., BETTA in the UK, FERC rulings in the US) affecting revenue caps and cost recovery.
• Environmental: Significant provisions exist for decommissioning nuclear assets and cleaning up contaminated land (former gas works), totaling £442m in environmental provisions.

Unusual Items

• Merger Costs: £184m pre-tax charge related to the National Grid/Lattice merger (transaction costs, employee share schemes, property costs).
• Impairments: £168m impairment charge on telecoms assets (186k) and £135m credit from the release of provisions on telecoms joint ventures (Intelig).
• Exchange Rates: A weaker US dollar reduced reported sterling operating profit by approximately £34m compared to the prior year's rate.

Investor Verification Checklist

• Merger Accounting: Verify the distinction between UK GAAP (merger accounting) and US GAAP (acquisition accounting) impacts on equity and goodwill. US GAAP equity is significantly higher (£9,426m vs £1,152m UK GAAP) due to fair value adjustments on Lattice assets.
• Pension Deficits: Review Note 7 regarding the suspension of pension surplus recognition. Under FRS 17 (US GAAP equivalent), the schemes show a significant deficit (£2,171m UK pensions), which impacts future cash flow requirements.
• Regulatory Asset Values: Confirm the recoverability of regulatory assets (£3,743m), particularly in the US, which are critical to the balance sheet but dependent on regulatory approval.
• Legal Exposure: Assess the potential financial impact of the Larkhall culpable homicide trial and ongoing environmental litigation in the US (Niagara Mohawk).
• Debt Maturity: Review the maturity profile of £14.5bn in borrowings to ensure refinancing risk is managed, particularly with £2.2bn due within one year.