Earnings Call: H2 2011

Feb 23, 2012

Well, good morning, ladies and gentlemen. Welcome. For Centrica, 2011 was a mixture of unprecedented world events that produced material business challenges, all requiring great management skill to deliver a strong set of numbers. In the wake of Fukushima, escalating wholesale gas prices, political uncertainty at home and abroad, and mounting consumer hostility to all energy companies, I am pleased to say that Sam and the team did an effective job in delivering the goods. In a few minutes, as usual, Nick will provide details of the financial performance. He will then hand over to Sam, who will provide greater color on the strategy and operational performance. But before handing over, I wanted to confirm our commitment to three key business principles, however turbulent the outside world. First, our business model has consumers at its heart. Our commitment to service and competitive pricing, both here and North America, is central to our thinking. Our objective is to make a fair profit by delivering strong customer satisfaction. We use our profits to invest in the security of supply and to reward our shareholders. To achieve these goals, Sam and the team have acted promptly and professionally to reduce costs, and our employees have acted, in their own way, positively and responsibly in their willingness to be flexible in rostering, pension terms, and remuneration. We have been able to make substantial investment, reduce our electricity prices to consumers, and reward shareholders with an 8% dividend increase. All of this has been achieved without overstretching our balance sheet, dislocating the business, disturbing our employee relationships, or diluting our commitment to apprenticeship training and executive development, which is a tribute to management, and a reflection of Centrica values. Secondly, we are a vertically integrated customer-facing business, underpinned by carefully judged investments in upstream power and gas assets, which in their own right must deliver value and growth. The board has also given its support to a number of major contracts during the year, including the LNG agreement with Qatargas, the contract with Statoil, and a series of smaller but equally important investments made to secure long-term supplies, deepen our reserves, and enhance our earnings. Our balance sheet is strong and the retention of our rating is key to our counterparty relationships. We have strong cash flows for new investments and the financing of outstanding 2011 acquisitions. Looking to the future, I would emphasize that the application of our funds to all our investments, including wind and new nuclear, will be made only if the economics are sound and the returns attractive and secure. Shareholder value is our priority when making these investment decisions. Finally, we are an international business and our geographic balance is proving to be effective. We are now a significant player in the Norwegian North Sea, and our upstream business also has a presence in Trinidad and in the Netherlands. In North America, disciplined investment replicating our proven business model in unregulated markets with customer and service-led expansion is serving us well. Growth has been strong in 2011, and prospects for 2012 are encouraging. We have witnessed, however, sudden changes in U.K. government tax policy that disrupted the certainty on which investments may be planned. We are a major contributor to the U.K., paying some GBP 800 million in tax, GBP 700 million in dividend, and providing employment for over 30,000 people in this country. It is hoped that our representations to government on the need for fairness and certainty have been heard. In an uncertain world, however, whilst our commitment to the U.K. remains strong, having alternative opportunities for investment has proved to be wise. Looking forward, 2012 will continue to be challenging, but I remain confident that the top management team we have, supported by the increasing bench strength of talent that they are developing, will be successful in building the business in the year ahead. I will now hand over to Nick. Thank you, Roger. Morning, everybody. As usual, I will start with some commodity price context before going to the results. 2011 was certainly a turbulent year for commodity prices. Oil didn't hit the peaks of 2008, but it averaged $110 a barrel, its highest ever level across the whole calendar year. U.K. gas prices were volatile. Low demand, mainly due to warm weather, pushed prices down at the beginning and at the end of the year. But events in Japan caused them to spike up sharply in March. NBP averaged 58 pence per therm, 50% up on 2010. The trend remains upwards. Gas prices for next winter are currently around 15% higher than for the current winter. Power prices followed gas prices upwards, but with the squeeze on spark spreads, which remained depressed throughout the year. Spark spreads have fallen even lower in recent weeks as gas prices have risen, and coal fire generation does have a significant advantage for 2012. But this is of course the last year of free carbon allowances. In the U.S., gas prices fell further from the levels that were already very low by international standards. We have seen some recovery in recent weeks as some companies have scaled back their shale drilling, but the differential to prices elsewhere in the world look set to stay. Our integrated model stood up well to that commodity price volatility. We were still able to post an increase in earnings despite the winter months being some of the warmest on record, and despite the increase in tax rates for our gas and oil production in the U.K. Here are the key financials for the group as a whole. As you can see, revenue rose 2% to $22.8 billion, mainly due to higher Upstream revenue resulting from the higher prices. Downstream revenue was actually lower than 2010 despite higher retail prices, as consumption fell due to the warmer weather, with the result that average customer bills were actually lower than they were the year before. Operating profit was also slightly ahead, with strong growth from Upstream and from North America offsetting a return to more normal levels of profit for the Downstream in the U.K. after an exceptional 2010, and a lower result from storage. Interest costs fell due to the bond buyback we did at the end of 2010. In contrast, the tax rate rose to 40% due to the shift in mix back to the more high-taxed Upstream, and due to the increase in tax rates for U.K. gas and oil production, partly offset by the benefit of lower ordinary corporation tax rates. The net result was earnings up 3% to just over GBP 1.3 billion, which translates to 25.8 pence per share. We are proposing a full-year dividend of 15.4 pence, which will give growth of 8%, around 3% ahead of inflation. The robustness of our overall business and our strong cash flows has allowed us to push up the payout ratio and maintain our commitment to provide real growth each year. Here's the breakdown of the divisional results. You can see the integrated model at work with higher Upstream profits offsetting the lower Downstream result. Starting with U.K. Downstream, British Gas, there we posted results of just over GBP 1 billion. Within that, we saw residential energy margins move back to more normal levels, and a lower result from BGB, but Services still delivered 10% growth in challenging market conditions. In BGR, gas consumption was down sharply by over 20% as we went from one of the coldest years on record to one of the warmest. That resulted in lower revenue despite higher unit average retail prices, 13% higher for gas, 10% higher for electricity. Margins were within our 6%-7% target range, but were obviously well down on the unusually high levels of 2010. Services continued to grow despite the weak economy holding back installations in particular. Revenue grew by 3%, and the cost reduction steps we took allowed us to increase margins and deliver a 10% increase in profit. BGB also faced challenging market conditions, with the warm weather and weaker economy both impacting consumption. We are pleased to be able to hold margins, but we are seeing more competitive pressure in the B2B energy sector, emphasizing the need to push on with the development of our services offering for business customers. Turning to the U.K. Upstream, here operating profit was also over GBP 1 billion, an increase of some 33% from 2010. That growth was driven by the much higher gas and oil production profits. As you can see, gas production volumes actually fell entirely due to lower output from Morecambe. The field of course is in decline, but more significantly was that we chose not to run Morecambe for several weeks as we prioritized economic value over short-term profits. Much of that shortfall in gas volumes was made up by higher, more valuable oil production, which was up 6%. We also benefited from higher realized prices for both gas and oil, up 24% and 22% respectively. In power, the CCGTs continued to suffer from the low spark spreads, with realized spreads and power generated both down significantly. Four of the stations were put into preservation mode for parts of the year, and we've now announced proposals to close two stations and switch three others to peaking operation. In contrast, the nuclear fleet performed extremely well, generating over 55 terawatt-hours for the first time since 2005 and benefiting from higher power prices. Wind also did well, with much better load factors, resulting in a 21% increase in output. Overall, the power segment increased profit to over GBP 250 million, as you can see, despite the CCGTs only just breaking even. The storage result was well down, as expected. Average SBU prices were almost 30% lower, reflecting the collapse in summer-winter differentials, and that flowed through to the bottom line, resulting in the profits you see there of GBP 75 million. In North America, Direct Energy had a very strong year, with profits up by a third to GBP 312 million. Within the overall DE result, residential energy fell back to GBP 161 million, as we were not able to completely offset the decline in Ontario with growth in Texas and the U.S. Northeast. The business was also impacted by the sharp spikes in Texas power prices due to extreme weather in both February and August. Nevertheless, margins remained healthy and at 6.7% were actually higher than those for residential energy in the U.K. Business energy continued to grow strongly, adding volume and expanding margin. In services, this was the first full year of the Clockwork business acquired midway through 2010. Good growth in on-demand work and tight cost control enabled us to almost double profits to GBP 28 million. Upstream, our power stations in Texas were beneficiaries of the price spikes there due to the extreme weather, with output up some 36%. We also increased gas production in Alberta by 39% due to the Wildcat Hills acquisition, which also contributed to much lower unit operating costs. Overall, we were able to eliminate the loss seen in 2010, and DE's upstream business recorded GBP 13 million of profit. We did have a number of exceptional items within the 2011 results, as shown on the screen there. Continued low spark spreads and our proposal to close or down rate five of the stations has resulted in us taking an impairment of GBP 226 million on the CCGTs in the U.K. We have a group-wide cost reduction program underway, with related restructuring costs of around GBP 150 million this year and a similar amount expected next year. That cost reduction program includes substantial savings in pension costs, with a 2% cap being put on increases in pensionable pay. That is lower than the previous assumption for pay increases and results in a one-off pension credit of over GBP 300 million, in addition to the ongoing savings. The U.K. pension schemes now show a surplus rather than a deficit, at least under the IAS 19 accounting rules. We are scheduled for evaluation as at March 31st this year, but we do expect to have to continue to make deficit payments into the schemes as the trustees will apply very low gilt yields to discount the liabilities, not the more generous corporate bond yields used by IAS 19. Our exit from continental Europe has caused us to reassess the pipeline capacity contracts we have there and the tolling contract we have for the Rijnmond CCGT in the Netherlands. With lower gas spreads and spark spreads even lower than the U.K., these contracts are out of the money and we've taken a provision of over GBP 200 million. The last two exceptional items, the deferred tax impact of the higher tax rate on U.K. gas and oil production and the loss on the Oxxio sale you saw in the first half. Note that there will be a further deferred tax hit of around GBP 60 million in 2012 due to the restriction of tax relief on decommissioning costs to 50%, which is only being legislated for in this year's Finance Act, a year behind the increase in SCT. In terms of cash flow, you can see the business remains highly cash generative with the EBITDA of over GBP 3 billion. The working capital outflow from 2010 was reversed as downstream volumes in the U.K. returned to more normal levels. The cash we generated was broadly sufficient to cover interest, tax, dividends, and GBP 1.6 billion of CapEx, leaving net debt up only a little at GBP 3.4 billion. Here's the breakdown of the GBP 1.6 billion of CapEx just coming up. There it is. As expected, upstream CapEx stepped up to over GBP 600 million as we put capital into a number of projects, including Ensign, York, Seven Seas, and Rhyl. We also continue to invest significant capital into offshore wind, with spend on Lincs making up around two-thirds of the GBP 300 million spent in the power segment. Going down to the bottom acquisitions in 2011 included PH Jones within British Gas, Wildcat Hills in Alberta, and the U.S. downstream acquisitions of Gateway, First Choice Power, and Vectren. These were partially offset by the proceeds from the sale of Oxxio. Looking into 2012, we foresee further significant organic development. In upstream gas, there'll be further spend on York and Rhyl, with significant investment also planned for Q and on Valemon, which we are acquiring from Statoil. Subject to the timing of the final investment decision, we may also see significant spend on the Cygnus project. Power includes most of the remaining expenditure on Lincs, although our net investment into the joint venture could vary depending on where we get to with project financing and on the potential sale of transmission assets out of the project. 2012 could also see the first significant spend on Race Bank, our next offshore wind project. Our current estimate is for organic CapEx of GBP 1.4 billion this year, but there are a number of variables that could swing that up or down. There will also, of course, be substantial spend on acquisitions, with the GBP 1.4 billion you see there representing the acquisitions we're already committed to upstream and in North America. As you know, our credit ratings are important to us. I thought you might find it useful to see how the rating agencies look at our financial position. Rather than simple EBITDA to debt multiples, they look at a range of cash flow and economic debt measures. The key ones are FFO, funds from operations, to debt, and RCF, retained cash flow, to debt. In both cases, adjusting debt for operating leases and similar commitments. The calculation for 2011 is shown there on the screen. It's not just about one year's figures, of course, and other non-financial factors come into play. But typically, the agencies look for us to have FFO to debt above 35%, which we comfortably do, as you can see, and RCF to debt in the mid-20s. We are tighter on that measure, but we still have around half a billion of headroom. Remember as well, of course, that spending on acquisitions, such as the three upstream deals that we've announced, adds to cash flow as well as adding to debt. In summary then, a good set of results with profits ahead of 2010, despite some headwinds across the group. Upstream gas and oil production and nuclear generation, together with the very strong growth in North America, were particular highlights. We were able to increase the dividend by 8%, reflecting our confidence in the group's long-term earning capability, as well as our strong balance sheet position and strong cash flows. For 2012, we are looking to improve on the profit growth we achieved last year. With the retail prices currently above last year's average and assuming normal weather, BGR should have a higher revenue, which with normal margins, should translate into better profits for British Gas as a whole. Upstream, we expect higher production from the existing assets with a further boost from the acquisitions, albeit the tax rate and the interest charge will climb as a result of those acquisitions. We will also look for further growth in North America, giving an overall positive picture right across the group, subject to the usual variables of weather, wholesale prices, retail prices, and production performance. With that, I will hand you over to Sam. Thank you very much, Nick, and good morning, everybody. As you've heard, 2011 was a tough year, presenting both global and local challenges. However, against this backdrop, the business performed very well, delivering higher earnings, and these followed on from a strong performance in 2010. We've made important progress which will position the business well for the future, sharpening the business downstream, delivering our investment program upstream, and building scale in competitive markets in North America. Turning to the performance in the year, let's start with British Gas. I'm particularly pleased that once again, we achieved an increase in our net promoter score in both energy and services, and for the first time, achieved a four-star rating from Consumer Focus. We continue to differentiate ourselves through innovation with constantly improving online offerings, new propositions for the smart home of the future, as well as our successful partnerships with Nectar and Sainsbury's, all of which are helping to provide customers with additional choice and value. Early in 2011, we faced significantly higher wholesale prices for electricity and particularly for gas, alongside rapidly rising environmental and transportation and distribution costs. This required us to increase our tariffs in the second half of the year, leading to increased churn and a small reduction in the number of energy accounts over the year. In a rising price environment, it's even more important that the industry engages closely with customers and all stakeholders. We've therefore led the way with our Honest Conversation to help customers understand the drivers behind energy prices and to explain the steps we've taken to simplify their bills. I will return to this later. We were also the first of the major suppliers to implement a price reduction this year with a 5% cut in our standard electricity tariff, making us, once again, the cheapest major supplier for electricity. In services, the business performed well despite the effect of the weak economy. We added 144,000 product holdings to the rollover. The rollover of insurance-based contracts is now essentially complete. The agreement we reached with our engineers allows us to offer a more flexible and responsive service. In British Gas Business, the results of the year were impacted by the effect of warmer weather and the economy. The number of customer supply points reduced slightly, partly reflecting site closures. In this environment, it is all the more important that we deliver high levels of service tailored to the needs of our customers while expanding our range of business services offerings. We continue to achieve growth in new markets. The business now generates revenues in excess of GBP 250 million per annum, and we expect it to make a positive contribution to operating profits this year. In summary, the downstream business is performing well despite difficult market conditions. Turning now to the U.K. upstream business, where we achieved strong performance across the portfolio. In gas and oil, work on our projects is progressing well. We have brought new production on stream at F3-FA and Gusander. We further improved the performance of existing assets such as Grove and Chiswick, and we are benefiting from new acquisitions, such as the stake we acquired in the Statfjord field from Shell in 2010. We have also added to our reserves, ending the year with 440 million barrels of oil equivalent 2P reserves, more than replacing our production for the year. As you can see on the chart, we have further reserve additions to come with the recent Norwegian and UKCS acquisitions set to add over 175 million barrels equivalent to our reserve base. We have also strengthened our partnerships with leading worldwide gas producers to bring gas to the U.K., taking delivery of our first LNG cargoes under the Qatargas supply contract and entering into a new 10-year agreement with Statoil. In power, conditions have been tough for gas-fired generation. However, this was more than offset by improved output and achieved prices for both nuclear and wind. On our Lincs offshore wind farm development, we are making good progress and expect first power later this year. Here is our upstream production profile as of a year ago, with the business capable of sustaining production at the 50 million barrel a year equivalent level, in itself reflecting the scale and capabilities that we added through the Venture Production acquisition. Here is the corresponding pro forma position for 2012, with production comfortably around the 70 million barrel oil equivalent level. This includes production from the recent Statoil and Statfjord transactions, as well as the acquisition from Total that we announced yesterday. You will see from the chart that in addition to increased cash flow and earnings, we are now less reliant on exploration to maintain production. Turning next to North America, where we have had a very good year financially and have increased the scale and depth of the business as a platform for continued growth. Downstream in residential energy, we've increased our customer base by over half a million accounts. We've built on our existing positions in Texas and the Northeast, both organically and through acquisitions, adding some 700,000 customers, increasing our market share, and delivering strong synergies. However, in Ontario, the position is more challenging, with the ECPA legislation making it hard to acquire and retain customers. As a result, we're facing significant customer losses in Ontario and are managing the cost base to minimize the impact. In business energy in North America, we had another good year, and although competition is intensifying, we were able to achieve further volume growth while sustaining our margins and consolidating our position as the number three player in the U.S. market. In services, following the acquisition of Clockwork in 2010, we now have a solid platform for growth. Through the Home Warranty of America transaction, we will have the capability to sell insurance-based contracts alongside our on-demand products. While upstream in North America, we delivered a much-improved result despite the low gas price and the weak spark spread environment. In gas production, we're benefiting from high volumes and a lower cost base. In power generation, we were able to capture the benefit of power price spikes during the extreme weather in Texas. So in summary, 2011 was a year of considerable achievement across the group, and our business model has proven to be both robust and resilient. Looking now to the future, our immediate aim is to maximize the returns from our existing assets, both safely and reliably. Downstream, this requires us to drive efficiency savings while still maintaining excellent levels of customer service to leverage our scale and brand. Upstream, we have a strong portfolio of both operational and development assets. Here, we're deploying our capabilities to maximize returns from the existing portfolio and successfully deliver our in-flight projects. As we look to longer term growth, it's important that we take a disciplined approach to investment, maintaining a healthy and competitive balance between the upstream and downstream under the vertically integrated model. Each of our investment options is considered on its own merits, but also in terms of the fit with the wider portfolio, incrementally strengthening the hedge, maintaining appropriate geographic diversity, and delivering value and long-term growth as well as short-term earnings. Turning now to our cost reduction program. Towards the end of last year, we launched a group-wide review of the cost base, given the challenging economic environment. In total, we expect to save GBP 0.5 billion over the coming two years against our controllable cost base. GBP 400 million of this saving will be in operating costs, more than offsetting the effect of inflation and allowing scope for continued investment for growth within the existing cost base. Headcount reductions play a significant role, with some 2,300 FTE reductions already announced. For example, in field sales and across many of our support functions. However, we remain closely focused on ensuring that customer service levels do not suffer as a result, and we'll continue to develop our staff and recruit into our growth businesses. In summary, our goal is to sharpen our competitive position across the group, upstream and downstream, whilst also enabling the business to invest for growth for the benefit of both customers and shareholders. This slide gives you some further color. On the right, you can see the split across each area of the business, with around two-thirds of the savings being targeted in British Gas, but savings will also be in Centrica Energy, Direct Energy, and indeed the corporate center. In British Gas, the savings amount to a 10% reduction in operating costs in our core business over the next two years, even after allowing for the effects of inflation. Here, we're benefiting from our systems investment, increased online penetration, back office efficiency savings, and more streamlining of our support operations. In Centrica Energy, the priority is to deliver continued growth from the enlarged business. However, we've also been able to identify efficiency savings here in our supply chain and support functions, together with savings from the proposed closures in our CCGT fleet. In North America, we've taken the decision to relocate our head office from Toronto to Houston, bringing together many of our activities on a single site. In addition, we continue to drive efficiencies and synergies across all parts of the business. In the corporate center, we've reduced the headcount by two-thirds, transferring many activities back to the business to drive greater accountability. As I mentioned earlier, we launched the Honest Conversation towards the end of 2011, with the aim of building trust, building understanding, and delivering for our customers. In British Gas, we now have our two principal tariff types, and we're making it simpler for customers to help them select the right tariff for them. We're also providing clearer information regarding the components of the bill, including the cost of government environmental policy. We're also leading the industry in terms of help for the vulnerable, with the widest eligibility of any of the Big Six for the Warm Home Discount. However, with affordability now a key issue for households and the future cost of energy rising, it's important that the whole industry, including government and the regulator, engages in a process to build understanding and improve transparency. Any proposed redesign of the retail market needs to be proven to be transparent, simple, and lower cost for the consumer, as well as continuing to promote innovation, choice, and competition. Turning to the upstream, significant investment is required to deliver the country's energy needs for the next generation. However, much remains to be resolved under the government's electricity market reform proposals before investment decisions can be taken. As we set out in our Upstream Investor Day in December, we see the most immediate investment opportunities in upstream gas and oil and in offshore wind, with further options in new nuclear biomass, CCGTs, and gas storage, subject in each case to the returns being appropriate. In gas and oil, as you'll have seen, we've made good progress towards achieving our target of 75 million barrels equivalent production per annum. While in offshore wind, the priority is to bring the Lincs wind farm development online and to take a final investment decision on Race Bank. This is consistent with our objective of maintaining a competitive post-tax energy hedge of around 50%-60%, giving appropriate balance between the upstream and downstream, and the geographic diversity across the portfolio. In North America, we are making good progress towards our target of doubling the profitability of the business, with the potential to increase the scale of the business further for the right opportunities. Downstream, we continue to seek growth in our core deregulated markets, Texas and the Northeast, increasing scale and delivering cost efficiencies. We also now have a platform to expand our services offering, replicating the U.K. model with the introduction of annual contracts, and over time, cross-sell opportunities to our energy customer base. Upstream, we continue to seek value-adding opportunities in both gas and power, moving towards the 35%-40% cover level over time, but again, only where attractive returns can be identified. In summary, the business is performing well in a challenging environment, maximizing returns from the existing assets, putting capital to work through targeted investment, and maintaining an appropriate balance across the portfolio. Our business model remains resilient, delivering strong cash flows and year-on-year earnings and dividend growth, with this year's increase in dividend reflecting the confidence in the future prospects for the business. We also have attractive investment opportunities to deliver long-term growth, and have an appropriate cost reduction program in place to ensure that we remain competitive for the benefit of both customers and shareholders. I think with that, I would now like to open it up to questions. Thank you. Very good. Thanks, Sam. If you could press the button and just say who you are and where you are from. I will work from the back this time. We will start with Bobby and then come down. Bobby. Thanks. It is Bobby Chadha from Morgan Stanley. Given that you were the first to cut prices early in the year, can you give us a feel for how the churn rate has evolved, maybe in the second half, and what you are seeing in 2012 so far? That is the first point. Secondly, the second question is on the U.S. business. Gas prices are very weak, but noticeably they are much higher further out the curve, and it seems like as soon as you get close to delivery, they consistently collapse. Are you doing anything to hedge further out and try and capture higher prices before you get to prompt, or is that not possible? Two questions there, Bobby, and thank you for both of them. The first one is around churn rate, and I will let Phil speak to that. Clearly, when we have a round of price increase or price reductions, there is a brief period of churn, and then it settles down. I think it is too early to see what the result of the most recent one is, but it also is a function of differentials between suppliers which have narrowed. Phil, you might want to just touch on it. Yeah. As Sam said, some of it probably has not played through yet in the market. If I take February, I think we are about flat on customer numbers. So it is settling down. I think to answer your question directly, churn is at the lowest it has ever been. Of course, we stopped field sales and other ways of selling. We are not discounting online as heavily as others have done in the past, and not offering any sort of loss leader products, which is all part of the Honest Conversation. Again, you have seen SSE respond to that in a similar way. I think there is probably a little bit more discipline still to come in the industry before we get back to, feel like a level playing field. Certainly, if I look forward, I think we have got some good product launches coming. I think our relationship with our customers is excellent. Our service has never been better, actually, and so we are pretty optimistic about 2012. Is it fair to say if churn, if I heard you correctly, is at the lowest it has ever been, the cost of churn- It is. It is at the moment. By definition, it is at the lowest it has ever been as well? It is. But again, one swallow doesn't make a spring yet. We need to see how it all plays out throughout the rest of the year. Building on that, it would be fair to say that quite a lot of the churn was driven by the field sales activity, and as that has reduced, the churn has come down. The second question, I think, was around the forward curve in natural gas markets in the U.S. We do have a pretty well-hedged position there, but let Nick speak to the strategy going forward. Yeah, you are absolutely right, Bobby, and we do seek to capture some of that contango in the curve. We are actually reasonably well-protected for our 2012 production in terms of how we are hedged. Eventually, it will catch up with you, unless you have that continued collapse into the prompt. But we do generally hedge out a little bit further in the U.S. than we do here. Right. Lakis. Yeah, Lakis Athanassiou, independent analyst. Just a couple of questions, one on North America, and a couple on being in U.K. stuff. Ontario exit, are you managing to maintain your margins as you are exiting, or are your margins also coming under pressure as well as customer numbers? Albertan E&P, your 2011 numbers have got about zero net contribution, but if you have been hedging for 2011, you may have a positive. Can you give a rough indication of broadly what your EBIT was on Albertan E&P? Yeah. On British Gas Residential, you had a 21% fall in average household use. I estimate that is about 20% on weather, 1% on efficiency. Does that tie up with your own estimates? And could you also make a comment on about household efficiency progression, and if there has been a slowdown in the last year, and why? And on Rijnmond 2, were you applying any credits from your provision in 2011 to the power generation numbers at all? Okay, I think four questions there. Let me start with Ontario exit. As we have been, as I said, and we made clear in the statement, losing some customers. We have also been containing our costs. Chris, you might want to speak to what has been happening to net margins in Ontario. Nick, I think will touch on the profitability of our Western Canada business, recognizing that we have hedged a lot of the gas sales out. In Ontario over the last year, you see, Lakis, we have lost about 200,000 customers. We will see continued customer loss over the next year. Margins have come down but are higher than the average residential net margin still. We are renewing customers on a lower margin, but they are still pretty generous. Staying around the 10% level? Or better? They are higher than that. All right. Lakis, on the Albertan E&P, we are actually expecting higher profit in 2011 than 2010 because we have expanded the business through Wildcat Hills, which has been very good at reducing the cost. We are making GBP 20 million-GBP 25 million there, which is not a fantastic return on capital, but it is still a positive contribution. Just in the overall Direct Energy upstream, remember, we did have the benefit of the price spikes in August and February this year. You would have to take that out if you are looking at the overall Direct Energy upstream segment. Energy efficiency. I think your next question was around energy efficiency. You are absolutely right, Lakis, that the gas, and it was particularly focused on gas, as I understood it, and overall gas consumption down 21%. The question was how much of that was energy efficiency versus weather. I think the sort of 1%-2% level of energy efficiency is probably right. I think it is higher than 1%, but probably similar to 2% territory. Is that fair? Rijnmond 2? Yeah. Your last question is about the impairment of the CCGTs and what effect that would have. The benefit you get is that you get a lower depreciation charge, though it is obviously spread over the remaining life of the stations. I would say that benefit is relatively small compared to the pain of low spark spreads. Oh, so there was no cost of sales type reprovisioning, if you see what I'm saying? No. No. They're gas contract. It's a fixed asset write-down. Yep. But you haven't got any fixed assets in Rijnmond 2. Oh, so you're talking about Rijnmond. I beg your pardon. Rijnmond, yeah. Sorry, I was talking about the U.K. On the European ones, yes, you are absolutely right. We were losing money on those contracts, and we have provided for those losses. There won't be losses in the European gas transportation contracts of the same scale that there would have been otherwise. Okay. All right. I will go this side. Please. Martin Brough from Deutsche Bank. Just following up on the retail side, given you want to maintain competitive position, do you expect your competitors to actually be pricing in a way to try and get positive margins going forward? Broadly, what kind of benefit would you see Centrica getting over the competition, either through pricing or better cost efficiency? Well, I think the first part of your question is, where do we think our competitors will be? I think to understand, I think it is dangerous for us to try and predict exactly how they will price up, and where they will position themselves. We have noticed, certainly, and you saw that in Ofgem's report, that the levels of margin in the supply business are very low. I think that we obviously aim through our cost reduction program to remain as cost competitive as possible. We expect, clearly, that that will enable us to continue to be very competitive in the marketplace. As Phil said earlier, I think where we are at the moment is roughly flat. It will obviously depend on new propositions that we bring out, new propositions that our customers bring out going forwards. But I don't think we're seeing any significant change in the competitors' behavior at the moment. There is an interesting, because what will happen when free carbon stops in 2013, and whether that will influence their behavior in the retail market, we don't know. Yeah. For the second part of that then. Was that the only question? Yeah. Okay, fine. Right. Middle, Ed. Edmund Reid from JP Morgan. Two questions. First one was on the Ofgem liquidity proposals, which came out yesterday. Maybe a bit unfair to ask you about them so quickly, but I was wondering if you thought, what kind of impact you expected it to have on the business. The second thing is on services. Clearly one of your competitors, HomeServe, has had issues with the FSA, and I just wanted to make sure or to understand better, whether you've had conversations with the FSA and whether you're happy with what you're doing. The first question around Ofgem's liquidity proposals. I think the first point to make, and I'll let Mark sort of fill in on this, is that actually liquidity through the exchanges has gone up very substantially, fivefold, in fact, in the last few months. But it's all really been in the prompt. I think one of the things that Ofgem is trying to encourage is the development of more liquidity in the forward market. The position that we have consistently maintained is we'd like to see more in the forward market. We're, of course, probably a more active buyer than many of our competitors are. But actually, the big issue for a lot of the smaller companies, apart from clip sizes, which I think we've already addressed, is actually one of, have they got sufficient capital and balance sheets to be able to post the margins that are required if you buy electricity forward. So that's more of a problem, I think, for the smaller companies than liquidity per se, but I'll let Mark speak to the proposals in more detail and then come back and talk about HomeServe. I think the positive thing was that Ofgem recognized that liquidity was improving, and that a number of options were on the table to discuss further. In terms of your direct question, how does it affect us? We sell the majority of our power that we produce into the market anyway. We balance through the system, and we balance Phil's business. So in terms of direct impact, I'm not concerned from that perspective. What I am concerned about is the point that Sam mentioned, which is that you can address liquidity, but if the underlying issue is creditworthiness, then that's a much more difficult thing to resolve. I think we have to face up to the fact that the energy business, and being in retailing in a volatile commodity market, it is a business for somebody with a balance sheet. That doesn't mean you shouldn't have lots of new competitors, but they do need to have a balance sheet to be able to weather those storms. I think that's one of the things that we need to have a better conversation on. The second question, Ed, you had was around compliance and the issues HomeServe have had. I'll let the chairman of British Gas Insurance speak to that because he's been. We've recently had an Arrow review, and I think came out of it well. Yeah. So it's something very close to my heart. Absolutely. We've just had the review from the FSA, come out of that pretty well. But absolutely no room for complacency. We continually work to make sure that our scripts are as good as they can be, our controls are in place. It's something we watch very closely and we'll keep working on. What they did say was that they won't wind back until 2014. Reading from those sense that they're operating. Sorry to say, a follow-up question. Has the competitive dynamic changed at all in- In services the services market given HomeServe's issues? Phil, do you want to speak to that? A little bit. They're probably finding it harder to win customers, but they've always been pretty good at retaining existing customers. As you know, we have a couple of new water affinity deals with Wessex Water and Bristol Water, and now with Thames Water. So it'll take time, but we know that business is growing from our point of view, and we're quite pleased with the progress. Please. Yeah. Gas Hotshot from Robot Securities. Just one question, if I may, on yesterday's announcement with the Total acquisition. It's about 3.4 million barrels, I understand, per annum. And you've given guidance that they should come on stream, the first closing should be in July, I think. What sort of production should we anticipate for this year and next year, and what sort of decline rates should we factor into our models? What was the second question? The first question was production, the second question was- Decline rates, please. Decline rates. Yeah. The answer to the first question is these fields collectively produce about 9,300 barrels a day- Yeah over a 12-month period. You can assume half of that, if you like, on an annualized basis. What is attractive about this particular portfolio of assets, and we know a lot of the fields well because we are already in three of the bigger ones anyway, is that obviously they are near-term production. They do not require a lot of future capital and generate therefore strong cash flow and headroom. In terms of the decline rates, actually, if you look at Maria or if you look at Alba, they would be normal North Sea decline rates in the 10%-11% range, not the sort of Morecambe rates at 16%. Thank you. Okay. Back. Yes. Yes. It is Peter Bisztyga from Barclays Capital. Two questions on the U.S., if I may. Firstly, could you indicate roughly what proportion of the year-on-year increase in operating profit came from acquisitions and how much was underlying organic growth? Secondly, could you just detail a bit what the end game for Ontario is? Is there a level of customer numbers where you sort of expect to stabilize? Yeah. I think two good questions. You've got a number of moving parts going on in North America. You've clearly got the fact that Ontario is having been very profitable, we're losing earnings there. And actually, obviously you've got new acquisitions that are adding earnings. The two effectively largely net themselves out so that you can think of the organic growth. Nick, do you want to? Yes. The acquisitions actually didn't contribute a huge amount last year because they were. You also integration costs and the like. And only really the full year effect of Clockwork and Wildcat Hills played significantly into 2010. I guess a bit of Gateway as well. But I get 10%-15% of the Yeah growth would have come from acquisitions, the rest organic. And the organic, as Sam says, clearly is a mix of decline in Ontario offset by growth elsewhere. And sorry, the end game for Ontario? The end game for Ontario, what we're effectively doing is managing a decline there, and we will sustain it as long as possible. There's always the possibility that the legislation will change. We're not holding our breath, and we're managing the cost down. But as Chris says, as long as we can continue to write profitable business there, which we are managing to do at reasonable margins, then we'll continue to do that. We've got to exit the Ontario market, so we will continue to serve our energy customers. We will have a much lower number when this runoff occurs. But we also have a significant services business in Ontario. Yeah. We will maintain that and it will continue to grow. That has about 2 million customer relationships in it, and that is important. Although the government was returned at the last election, energy policy is still a fairly hot issue, and the situation may change on the energy side. Okay. In the middle. It's John Musk from RBC. Can I ask probably three questions on nuclear? Firstly, what's your level of invested capital so far on new nuclear? Secondly, if you decide to proceed on new investments, how affordable is the CapEx on those plants given probably the uplift in CapEx now on the upstream assets, upstream gas assets in particular? Finally, on the flip side, if you don't proceed because you can't get comfortable with returns or the build costs, how would you look to exit that and what makes you think you'd be able to recover the invested capital you've already put in? Yeah. Good questions, John. I think if we start with how much capital we put in, excluding anything we may have for goodwill around the British Energy acquisition. The capital we've actually put into new build is about GBP 130 million at the end of the year. We would expect to basically not spend more than GBP 200 million getting to FID. That's really our sort of top stop. If we spend any more than that, we would be reimbursed if we dropped out by our partner. In terms of how affordable it is, actually, I think, for us, this is really around returns, but it's also of course around how much capital do we want in any one project relative to the rest of the group and making sure that's appropriate. But I think in terms of affordability, the transactions that we've been doing in the upstream, while some of them have some increased capital requirement, they also bring a lot of operating cash flow. Indeed, particularly in Norway, the way the system works, you get tax deductions as you continue to invest. So actually, the capital investments and the acquisitions that we've made are not really reducing our capacity to do new nuclear. The end of the day is can we get a satisfactory return out of new nuclear? That is, I think, the biggest question. Obviously, if we were to decide not to proceed, then we would have a discussion with our partners around the terms of exit. Okay. Right. Please. Hi, Johnny Constable from Nomura. Two questions. Firstly, on residential supply, I was wondering if you might be able to give us some flavor on the hedging position for 2012, in particular, for your gas supply business. Secondly, just trying to understand the numbers on the cost savings from British Gas. If I take 60% or so, GBP 500 million, that's GBP 300 million over the next two years. If I read your results announcement correctly, you've got GBP 1.4 billion of operating costs or so. So if I take 10% of that, I've got GBP 140 million of the GBP 300 million. What's the rest? Does that fall within the GBP 100 million or so of reduction coming from cost of sales? If so, what is that and how do you get it down? Yeah. Let me start with the hedging position first. I think we, in common with all our competitors, don't disclose the amount of gas or electricity that we have brought forward. What we can say is that we buy some of our gas, obviously, up to 2 years forward, some of it season forward, and some of it in the month ahead and day ahead markets. And we have previously published bands around roughly where we want to be, and we are still within those sort of overall bands. So nothing exceptional on that. I think in terms of your second question, you're absolutely right that we expect to take GBP 300 million out of British Gas. We've got off a cost base of GBP 1.4. Your question was If I take 10% of the cost base off, that's GBP 140 million. Yep. You've got to get to GBP 300. Yes, because we've got growth going on in. If you go back to the chart that I put up, you'll see there's some growth going on in British Gas as well, because we are reinvesting. And so the net number will be smaller than the GBP 300 million because of a combination of inflation and investment in the growth businesses. So that the significant growth businesses here are as we grow the new markets business and as we grow the smart meter activity and the rollout of the smart meter activity, that's we will see top-line growth for those activities, which will more than compensate for any growth in cost. But that's the contra entry there. Our operating costs are GBP 1.6, actually, so 10% is a little bit more. Yeah. Our cost of goods is GBP 1.2 billion. What you have got to remember in the services business is all the labor is part of cost of goods. Anything we do around pensions and pay and rostering all plays through in the cost of goods in services and in the new businesses, and that is how we sort of make the numbers work. Okay. Thank you. Oh, and I think- But we can unpack that for you afterwards. Yeah. It's easy to go walk you through. In terms of parts and efficiency there, we've negotiated vans and boilers. We're working hard on our cost base, and we're confident about the delivery of those targets. Very good. Just go straight. It's Mark Freshney from Credit Suisse. I just have three questions. Firstly, on the power generation hedge in the U.K., clearly you've lost or closed a couple of plants. Some of the existing nuclear reactors reach 40 years of age in 2016, so your coverage of your peak energy requirement goes down. Does this mean that there's a gap to fill in terms of your electricity hedge in the U.K.? Secondly, Nick, you mentioned you're now focusing on these RCF to net debt and FFO to net debt numbers in the presentation. What are the desirable metrics, or what's the floor for those metrics that you're looking for? My third question is, would it be possible to give some more color around the impairment of the transportation contracts in Europe? Two years ago, you impaired the Schornfeld, which was an oil link contract. Now you're impairing a transportation contract. How much more potential is there for impairments relating to problems with the gas market in Europe? I think, Mark, your first question was around the power hedge. If you think of actually closing down old CCGTs, it doesn't really make much difference to the hedge for gas, because gas is the fuel. The question I think is a valid one around nuclear, which is clearly more of an issue over time. Indeed, we have a contract with Drax that will roll off as well that provides a hedge as well. So replacing that over time to keep to the 50%-60% level is something that ideally we would like to do. But we'll only do it for good value. If we can't find it doesn't mean that necessarily we have to do it all with assets either in the same way that we have the Drax contract. We can do it contractually if we wish to. Your second question, I think, was around RCF to debt and where would we like to be ideally. So obviously what matters is what the agencies look for us to be trying to hit. They typically would want us on FFO to debt to be above 35%, which we are quite comfortably, as you saw from the numbers. We're a bit tighter on RCF to debt, which they would typically look for us to be in the mid-20s. You shouldn't get overly hung up about one individual year, of course, because you have to look through the cycle, et cetera. But we are a bit tighter against that one than we are against the FFO to debt. And your final question, Mark, I think was around impairment of the transportation contracts, and is there anything else coming in Europe? The answer is we took this opportunity when we exited Oxxio to actually clean up everything we have in Europe. Okay. Thank you. Very good. Yeah, here. It's Andrew Mead from Goldman Sachs. I just had two questions. One was, you've done, I think, three deals in Upstream in as many months, many different sizes. Could you just explain, is that just a reflection when you push into that market, or is it perhaps market conditions, whether it be liquidity or prices? Yeah. Actually, two of the three transactions we'd been working on for over a year. The Total one was a little quicker, but it still took a number of months. We were able, I think, to take advantage of a slight softening we saw in the autumn to actually manage to come to terms effectively. They've both been transactions that they happened to coincide in announcement, but they'd been in discussions for a long time. I guess there was one other one was the, What we're signaling, which is an important point, Andrew, is we really at the level we're now at of 70 versus the target of 75, we're pretty close to being balanced. Therefore we are getting. We need, having made these sizable commitments and acquisitions, I think 2012 we'll be very focused on closing them and getting returns out of the investment we've made rather than seeking to expand that part of the business significantly in 2012. The other one was just on British Gas, the new services, new energy business. Is that going to be big enough to be a separate fourth reporting line next year? I think not next year, but I would hope that over time it will be. As a business at GBP 250 million of revenue that is starting to become profitable, it is still too small next year. Finished. Excellent. Thank you all very much indeed. Got the team working today as well, which means their presence was really worthwhile. Thank you all very much. Thanks.