Final Results

31st May 2006 07:03

Scottish & Southern Energy PLC31 May 2006 31 May 2006 PRELIMINARY RESULTS FOR THE YEAR TO 31 MARCH 2006 "During 2005/06 Scottish and Southern Energy continued its focus on delivering astrong operational performance and on securing value from its investment in newassets. This has enabled the company to deliver another set of very soundfinancial results and add to its well-established track record of sustained realgrowth in the dividend. In summary: • The full-year dividend will increase by 9.4% to 46.5p per share, including the recommended final dividend of 32.7p per share. • Adjusted profit before tax* grew by 19.2%, from £719.7m to £858.2m. • Adjusted earnings per share* increased by 16.1%, from 62.8p to 72.9p. • There are exceptional items totalling £127.4m, comprising distributions from the administration of TXU businesses and profit from the sale of Thermal Transfer. • The integration of the Scotland and the Southern gas networks is on schedule, following their acquisition by Scotia Gas Networks, in which SSE has a 50% stake, in June 2005. • SSE's energy supply business has grown to over 6.7 million customers at the end of March 2006 - a net gain of 600,000 during the year and of 2.2 million since 2002. • SSE's decisions to delay price rises have saved a typical gas and electricity customer around £100 since the start of 2004, compared with what they would have paid had SSE increased prices at the same time as the UK's largest energy supplier. Prices will be held at their current levels until at least the start of 2007. • SSE has started the investment of around £225m in the installation of flue gas desulphurisation (FGD) equipment at its coal-fired generation plant. • Work has commenced on the £140m project to construct what will be Scotland's first large-scale conventional hydro-electric scheme for 50 years, at Glendoe near Loch Ness. • SSE delivered 140MW of new wind farm capacity during 2005/06, and has acquired two new developments, comprising 98MW of capacity, subject to planning consent and network capacity being secured. • SSE has entered into a partnership with Mitsui Babcock, Siemens UK and UK Coal to undertake the front end engineering design of a 500MW cleaner coal plant at its Ferrybridge Power Station. • The development of SSE's energy services business has reached an important milestone with the launch on 1 June 2006 of a new gas boiler installation and maintenance service. SSE's core objective is the delivery of sustainable long-term real dividendgrowth. Our means of achieving this is unchanged and unchanging: maintaining andinvesting in energy networks; adding to our generation portfolio; growing ourenergy supply business; and developing further our presence in contracting,connections, gas storage and telecoms. This approach continued to serve us wellduring 2005/06 and we will maintain it during 2006/07 and beyond. With ourmajor investment programme, focused on the UK's key priorities of reliable andlower carbon energy supplies, we have excellent opportunities to enhance andcreate value. The prospects for sustained real growth in the dividend thereforeremain excellent." Sir Robert SmithChairman \* This preliminary results statement describes adjusted profit before tax beforeexceptional items, net finance income from pension assets (IAS 19), the impactof IAS 32 and IAS 39 and after the removal of taxation on profits fromjointly-controlled entities and associates. It also describes adjusted earningsand earnings per share before exceptional items, net finance income from pensionassets (IAS 19), the impact of IAS 32 and IAS 39 and deferred tax. In addition,it describes adjusted operating profit before exceptional items, net financeincome from pension assets (IAS 19), the impact of IAS 32 and IAS 39, and afterthe removal of taxation and interest on profits from jointly controlled entitiesand associates. FINANCIAL OVERVIEW These are the first preliminary results that SSE has reported underInternational Financial Reporting Standards and the comparative results for theyear to 31 March 2005 have been re-stated in line with the new standards. SSEfocuses on profit before tax before exceptional items, net finance income frompension assets (IAS 19), the impact of IAS 32 and IAS 39, and after the removalof taxation on profits from jointly controlled entities and associates. March 06 March 05 £m £m Statutory Profit before Tax 896.9 789.3 Movement in derivatives 70.9 0.0Exceptional items (127.4) (72.5)Tax on JVs and Associates 29.9 15.3Interest on convertible debt 3.6 0.0Return on pension scheme assets (115.7) (107.1)Interest on pension scheme liabilities 100.0 94.7Adjusted Profit before Tax 858.2 719.7 Adjusted current tax charge (231.5) (182.0)Adjusted Profit after Tax 626.7 537.7 Statutory profit after tax 642.3 559.8Number of shares for basic and 859.5 857.2adjusted eps Adjusted EPS* 72.9 62.8 Basic EPS 74.7 65.3 Dividend Per Share 46.5 42.5 Adjusted profit before tax* Adjusted profit before tax grew by 19.2%, from £719.7m to £858.2m. SSE'sstatutory operating profit included an adverse movement on IAS 39 operatingderivatives of £14.4m. Additionally, there was an adverse movement of £43.5marising from financial derivatives used by Treasury which was compounded by afurther adverse movement on joint venture financing derivatives of £13.0m. Thismeant that the impact of IAS 39 revaluations ('Movement in derivatives') was acharge of £70.9m. There was profit growth throughout SSE's business. The most significant growthwas achieved in Generation and Supply, which continues to benefit from theexpansion of SSE's electricity generation portfolio and the increase in thenumber of energy supply customers achieved over the past four years. Adjusted Earnings Per Share* To monitor financial performance over the medium-term, SSE focuses on adjustedearnings per share, which increased by 16.1%, from 62.8p to 72.9p. Dividend The Board is declaring a final dividend of 32.7p, compared with 30.3p in theprevious year, an increase of 7.9%, making a full-year dividend of 46.5p, anincrease of 9.4%. This compares with 27.5p in 2000, since when the dividend hasincreased by 69.1%, which represents a compound annual growth rate of 9.2%. Overall, SSE continued to perform well during 2005/06 and significantopportunities for investment in new assets have been identified for 2006/07 andbeyond. These investments are aligned to the UK's key priorities of deliveringreliable energy supplies and reducing carbon emissions. They mean that SSE iswell-positioned to achieve its target of at least 4% real growth in the dividendpayable to shareholders in each of the years to March 2008, with sustained realgrowth thereafter. ENERGY SYSTEMS Key Points: • Operating profit* (excluding gas distribution) up 9.2% to £367.9m.• Investment in electricity networks of £172.1m.• Fewer Customer Minutes Lost in electricity in Scottish Hydro and SEPD.• Fewer Customer Interruptions in electricity in Scottish Hydro and SEPD.• Investment in Scotia Gas Networks completed in June 2005.• SSE's share of SGN's adjusted operating profit was £102.7m. Energy Systems Introduction SSE owns Southern Electric Power Distribution, Scottish Hydro Electric PowerDistribution and Scottish Hydro Electric Transmission. These companies are thesubject of incentive-based regulation by the Office of Gas and ElectricityMarkets (Ofgem), which sets for periods of five years the prices they can chargefor the use of their electricity networks, their capital expenditure and theirallowed operating expenditure. In broad terms, Ofgem seeks to strike the rightbalance between attracting investment in electricity and gas networks,encouraging companies to operate them as efficiently as possible and ensuringthat prices for customers are no higher than they need to be. As at 31 March2006, SSE estimates that Ofgem's valuation of the assets of SSE's distributionand transmission businesses (the Regulated Asset Value or 'RAV') was around£2.55bn. SSE also has an equity interest of 50% in, and provides corporate and managementservices to, Scotia Gas Networks (SGN), which owns Southern Gas Networks andScotland Gas Networks, companies which own and operate the medium and lowpressure gas distribution networks in their parts of the UK. They are thesubject of incentive-based regulation by Ofgem similar to that which applies inelectricity. SGN estimates that the RAV of the networks it owns was around£3.0bn as at 31 March 2006. Energy Systems Overview Operating profit* in Energy Systems, excluding gas distribution, increased by9.2%, from £336.8m to £367.9m. SSE's share of SGN's operating profit in the 10months from 1 June 2005 was £102.7m. In total, Energy Systems contributed 46.4%of SSE's total operating profit*. Southern Electric Power Distribution During 2005/06, Southern Electric Power Distribution's operating profit*increased by 12.2% to £226.1m. This reflected an increase in the number of unitsof electricity distributed compared with the previous year and follows theintroduction of the new Distribution Price Control for 2005-10 and improvedperformance under Ofgem's incentives framework. SEPD distributed 34.9TWh ofelectricity, an increase of 0.75TWh. The average number of minutes of lost electricity supply per customer was 71,compared with 84 in the previous year. The number of supply interruptions per100 customers was 78, compared with 98 in the previous year. Performance inrespect of both minutes lost and interruptions was ahead of targets set by Ofgemunder its Information and Incentives Project (IIP) which gives financialbenefits to distribution network operators that deliver good performance forcustomers. This together with income earned under other incentive arrangementsis expected to lead to additional revenue of over £8m in 2007/08. Scottish Hydro Electric Power Distribution and Scottish Hydro ElectricTransmission Operating profit* for Scottish Hydro Electric Power Distribution and ScottishHydro Electric Transmission increased by 4.9% to £141.8m. This reflected anincrease in the number of units distributed and follows the introduction of thenew Price Control for 2005-10 and improved performance under Ofgem's incentivesframework. In the Scottish Hydro Electric area, 8.9TWh of electricity weredistributed during 2005/06, compared with 8.7TWh in the previous year. The average number of minutes of lost electricity supply per customer was 65,compared with 86 in the previous year, making performance in 2005/06 the bestsince records began in the 1960s. The number of interruptions per 100 customerswas 79, compared with 89 in the previous year. Performance in respect of bothminutes lost and interruptions was ahead of Ofgem's IIP targets. This togetherwith income earned under other incentive arrangements is expected to lead toadditional revenue of over £4m in 2007/08. Electricity Network Investment The key responsibility of SSE's Power Systems businesses is to maintain safe andreliable supplies of electricity and to restore supplies as quickly as possiblein the event of interruptions. During the Price Control period 2000-05, SSEinvested £780m in its electricity networks. A further £172.1m was invested in2005/06. In the course of the year, SSE added 974km to the length of itsnetworks, taking the total to over 127,000km. It also rebuilt 378km of itsnetworks as part of its programme of replacing 'open wire' overhead lines andlow voltage Consac cable. The Price Control Review for 2005-10 resulted in significantly increasedallowances for capital expenditure to maintain and improve the electricitynetworks, and SSE's increased investment programme is now under way. As a result, SSE forecasts that the RAV of its distribution and transmissionbusinesses has increased by around £80m (nominal) to £2.55bn as at 31 March2006. In addition, SSE expects to deliver an increase in capital expenditure,of over 20%, during 2006/07 and to sustain capital expenditure at this leveluntil 2010. On this basis, the RAV is expected to grow by around £500m (oraround £120m in real terms), excluding any major transmission investment, duringthe 2005-2010 Price Control period. Future Transmission Developments Since the introduction of British Electricity Trading and TransmissionArrangements (BETTA) in April 2005, National Grid has been Great Britain SystemOperator, responsible for balancing the supply and demand of electricity acrossGreat Britain. Scottish Hydro Electric Transmission remains responsible foroperating, maintaining and investing in the transmission network in its area,which serves around 70% of Scotland. These arrangements are working well. In March 2006, Ofgem published the third of six consultation documents that willform part of the Transmission Price Control Review for 2007-12. The objectivesof the Review are to develop incentives for investment in electricityinfrastructure, ensuring they are best able to provide efficient and timelyinvestment and allocate risk appropriately. In this context, key issues includethe arrangements for remunerating investment in the transmission network,including the major upgrades likely to be required in the future to accommodatethe generation of renewable energy. SSE is encouraged by Ofgem's previous workin relation to approving investment for such infrastructure development. As the licensed transmission company for the north of Scotland, SSE has toensure there is sufficient network capacity for those seeking to generateelectricity from renewable sources, in response to the Renewables Obligation.The project to replace the electricity transmission line connecting Beauly inthe Highlands with Denny in the Central Belt of Scotland is in line with thatresponsibility. It is likely that the construction of its part of thereplacement line will require an investment by SSE of around £250m. SSE's applications to Scottish Ministers for consent to build its part of theline were submitted in September 2005, but it is not yet clear how long it willtake for the applications to make their way through the planning process. Electricity Distribution and Transmission Priorities in 2006/07 During 2006/07, SSE's first objective in power systems will be to maintain safeand reliable supplies of electricity and to restore supplies as quickly aspossible in the event of interruptions. This will be supported by a significantincrease in investment in the networks, targeted at upgrading them where thegreatest number of customers will benefit. SSE will also continue to workclosely with Ofgem to secure a satisfactory outcome from the Transmission PriceControl Review. It will also seek to make progress with the replacement of itspart of the Beauly-Denny transmission line. Scotia Gas Networks - Financial In June 2005, Scotia Gas Networks plc (SGN), in which SSE holds 50% of theequity, acquired the Scotland and the Southern gas distribution networks fromNational Grid Transco. They comprise 73,000km of gas mains, delivering gas toaround 5.6m industrial, commercial and domestic customers. SGN funded the acquisitions through: £540.0m of shareholder subordinated debt;£427.8m of equity; and £2,250m of non-recourse bank borrowings. SSE's actualinvestment, including the shareholder subordinated debt, was £505.0m, which was£35.0m lower than was expected when the acquisitions were completed. In returnfor this investment of £505.0m, SSE recognises 50% of the distributable earningsfrom SGN. SSE is also providing SGN with corporate and management services. Theacquisitions have made SSE the second largest energy distribution business inthe UK. In the first ten months, SSE's share of SGN's adjusted operating profit was£102.7m. Net of all items of interest, its contribution to SSE's profit beforetax* was £48.6m. This was despite high gas prices leading to significantlyincreased 'shrinkage' costs. Significant benefits have already arisen as a result of the synergies betweenSGN and SSE, as a provider of corporate and management services. For example,the two organisations share around 400 items of common stock, which gives themthe ability to make larger-scale purchases. In October 2005, Scotland Gas Networks plc and Southern Gas Networks plc issueda combination of fixed rate, floating rate and index-linked bonds totalling£2.2bn, with an average maturity of 17 years. The transaction was heavilyover-subscribed and was a benchmark transaction for the UK gas distributionsector. It was also the largest corporate financing in Europe in 2005 at thedate of issue. With a rate of interest that is below that envisaged when thedecision was made to acquire the two networks, the success of the bonds issuewill give SGN significant financial benefits over the long term. The proceeds were used by SGN to repay substantially the bank borrowings thatwere arranged to fund the purchase of the networks in June. As at 31 March 2006,SGN's net debt, which is non-recourse to SSE's balance sheet, was £2.1bn. Scotia Gas Networks - Operational SGN's over-riding goal is to distribute gas safely and reliably. During 2005/06,it secured a reduction of 29% in the rate of lost time incidents. It has alsoembarked on a major programme of performance improvement. This has alreadydelivered some early results, such as a fall of 52% to 166 in the number ofcomplaints from customers sent to energywatch for resolution in 2005/06,compared with the previous year. As part of their licence conditions, all gas network companies are required tocommission quarterly independent customer satisfaction surveys relating toplanned replacement work or unplanned repair work. In the results compiled inJanuary 2006, overall satisfaction in Scotland was 4.04 and in Southern it was4.00 (on a scale of 1.00 being 'very dis-satisfied' and 5.00 being 'verysatisfied'). SGN's focus on delivering a high standard of service to customers is reflectedin its decision to undertake a pilot programme within its Operations Division inwhich the existing functionally-based structure is replaced by ageographically-based structure. This is expected to enable more local, andcustomer-focused, management of the business' operations and to help secure costsavings. Looking to the longer-term shape of the business, SGN will be undertaking majorinvestment to upgrade its gas networks. The efficient and economic delivery ofthis capital investment will increase further SGN's RAV. To support thisprogramme and its other activities in the most efficient way possible, it hasin-sourced the work of around 700 people in gas contracting and gas connectionswho were previously employed by third party contractors. Scotia Gas Networks Priorities in 2006/07 SSE's priority in gas distribution will be to provide SGN with the corporate andmanagement services to support its ongoing reform of procedures, processes andpractices. These are designed to secure cost savings and efficiencies. Theywill involve, for example, more work in gas mains replacement being broughtin-house. As part of this, SSE is supporting the introduction of new frontoffice management systems, reducing the total number of systems from 56 to 11,which will be very important. SSE will also support SGN during the GasDistribution Price Control Review, in which the existing Price Control is beingextended for one year from 1 April 2007 and then reset for the next PriceControl period from 1 April 2008. GENERATION AND SUPPLY Key Points: • Operating profit* up 14.5% to £444.8m.• Gas-fired power station availability 87% and coal-fired power station availability 92%• Good performance in new BETTA arrangements.• Investment at Ferrybridge, Fiddler's Ferry and Glendoe.• Partnership to undertake front end engineering design of 500MW cleaner coal plant at Ferrybridge.• Acquisition of options to develop new wind farms.• Net gain of 600,000 customers during 2005/06 following policy of responsible pricing.• Further reduction, of 15%, in complaints to energywatch. Generation and Supply Introduction A series of market reforms in Great Britain, culminating in the introduction ofBETTA in 2005, means that wholesale gas and wholesale electricity are tradedlike any other commodities. SSE purchases gas and, where appropriate, someelectricity via bilateral contracts and through trading - the lattercomplementing the electricity produced from its own generation portfolio.Within its integrated business model, SSE's power stations are used to supportperformance in electricity supply. Generation and Supply is, therefore,assessed as a single value chain. Following the acquisition of an additional stake in Barking Power Ltd and thecompletion of the Hadyard Hill wind farm in early 2006, SSE owns over 10,000megawatts (MW) of electricity generation capacity, including its share of jointventures. This comprises almost 4,400MW of gas-fired capacity, 4,000MW ofcoal-fired capacity, over 1,500MW of hydro and wind capacity and 150MW ofoil-fired capacity. As at 31 March 2006, SSE supplied electricity and gas toover 6.7 million homes, offices and businesses within the UK's competitiveenergy supply market. Generation and Supply Overview Operating profit* in Generation and Supply rose by 14.5%, from £388.6m to£444.8m, contributing 43.9% of SSE's total operating profit during 2005/06. Theunderlying financial performance of Generation and Supply has been reportedexcluding the impact of IAS 39 derivative movements (see 'Financial Overview'above) as SSE believes this better represents underlying business performance. During 2005/06, SSE's power stations (wholly-owned and owned by joint ventures)generated 41.1TWh of electricity, compared with 38.8TWh in the previous year.SSE supplied 49.9TWh of electricity to industrial, commercial and domesticcustomers, compared with 47.7TWh in the previous year. Its number of energysupply customers grew by 600,000 during the year to over 6.7 million. There were four main reasons for the growth in operating profit: ongoingbenefits from the acquisition in July 2004 of the Ferrybridge and Fiddler'sFerry power stations; the successful deployment of SSE's Scottish power stationsin the new Great Britain electricity market (BETTA); the abolition of the HydroBenefit subsidy previously paid by SSE's Generation and Supply business; andsustained growth in energy supply customer numbers. These reasons for growth were, however, offset by three factors: the impact ofhigh wholesale energy prices, driven partly by the price of carbon emissionsallowances following the introduction of the EU Emissions Trading Scheme (EUETS) in January 2005; SSE's decision to protect its customers from the worstimpacts of volatile wholesale energy prices by delaying increases in the priceof gas and electricity; and lower output from SSE's hydro electric schemes,which was below the long-term average, having been significantly above thelong-term average in the previous year. The Hydro Benefit subsidy previously paid from SSE's generation activities wasabolished on 1 April 2005 and was replaced by a separate scheme to assistcustomers with the high costs of distributing electricity in the north ofScotland. The abolition contributed £37.0m to SSE's profit from its generationactivities during 2005/06. The profitability of its distribution businesses wasunaffected. EU ETS and BETTA Since its launch in January 2005, the EU ETS has seen the price of carbonallowances fluctuate, with a peak of around 30 Euros a tonne in the first fewmonths of 2006. SSE's emissions allowance, of around 20 million tonnes, wasreasonable in comparison to the rest of the UK electricity generation sector,but was lower than the level of emissions that SSE requires in practice. As partof the cost of generating electricity, higher prices of carbon allowances addupward pressure to electricity prices. SSE's policy is to ensure it has minimalexposure to fluctuations in the price of carbon allowances. SSE is one of a number of companies which has submitted an application to theEuropean Court of First Instance under Article 230 of the EC Treaty challengingthe European Commission's decision to reject the UK government's proposedamendment to the UK Phase I National Allocation Plan. Uncertainty also surrounds the longer-term impacts of EU ETS, not least because:the first phase has less than two years left to run; the details of the secondphase, due to start in 2008, have not been finally determined; and it is not yetcertain that there will be an EU ETS after the end of the second phase in 2012.In its submission to the UK government's review of energy policy, SSE arguedthat there should be confirmation that there will be a long-term carbon pricingframework from 2012 onwards, accompanied by as much clarity as possible on thesecond phase of the EU ETS. Since the BETTA arrangements were introduced in April 2005, SSE has benefitedfrom its ability to deploy its flexible power stations in Scotland to meetdemand from the electricity market in England and Wales. This positive impactfrom Scottish-based generation contributed over £20m to operating profit. Gas-fired Generation - Operations Good performance in BETTA is dependent on power stations being available togenerate electricity in response to customer demand and market conditions.SSE's principal wholly-owned gas-fired power stations are Fife, Keadby, Medwayand Peterhead. During 2005/06 as a whole, they achieved 87% of their maximumavailability to generate electricity, excluding planned outages, compared with94% in the previous year. The plant delivered better performance during thesecond half of the year, following problems with reliability during the firsthalf, and availability improved to 92%, up from 83% in the first six months.The issues are being dealt with through well-established long-term serviceagreements with contractors. In addition, the number of unplanned outages atSSE's four main gas-fired power stations was down by 40% during 2005/06. Gas-fired Generation - Investment In January 2006, SSE acquired an additional 8.35% stake in Barking Power Ltdfrom the administrators of TXU Europe Power Ltd for £14.7m. The acquisitiongives SSE a total stake of 30.4% in the 1,000MW combined cycle gas turbinestation, which was commissioned in 1995, and effectively added 84MW to theportfolio of electricity generation assets owned by SSE. The acquisition of an additional stake in Barking Power Ltd complemented SSE'sother investments in coal and biomass generation and in renewable energy. SSEbelieves there is significant value in the diversity of its electricitygeneration portfolio and expects to make new investments in gas-fired generationplant to go alongside its plans in coal and biomass generation and inrenewables. The launch of the EU ETS has underlined the need to develop new technologies toreduce and capture carbon dioxide emissions caused by the use of fossil fuelsand SSE is committed to looking for opportunities to participate in appropriatedevelopments. In June 2005, SSE and its partner BP announced they are undertaking detailedfront-end engineering design work on the world's first industrial-scale projectto generate 'de-carbonised' electricity from hydrogen. The planned project wouldconvert natural gas to hydrogen and carbon dioxide gases, then use the hydrogengas as fuel for a power plant at Peterhead Power Station with a capacity nowexpected to be 475MW, and export the carbon dioxide to a North Sea oil reservoirfor increased oil recovery and ultimate storage. SSE's interest in the projectis limited to its onshore aspects. The current phase of work is expected to be completed in the second half of 2006/07, which will then allow a final investment decision to be taken. The fullproject could require investment by SSE of around £150m and is subject to,amongst other things, the establishment of an appropriate policy and regulatoryframework which encourages the capture of carbon from fossil fuel-basedelectricity generation and its long-term storage. Coal and Biomass Generation - Operations SSE acquired the Ferrybridge and Fiddler's Ferry power stations, each with acapacity of almost 2,000MW, and associated coal stocks, for £136.0m in July2004. This equated to around £20 per kilowatt of installed capacity. The £123.3mpaid by SSE for fuel in transit and contracts to supply fuel has now been morethan recovered from the value of the contracts. The stations achieved 92% of their maximum availability to generate electricity,excluding planned outages, during the year, compared with 88% in the previousyear. The winter of 2005/06 demonstrated the value of coal as part of SSE'sdiverse generation portfolio. Against a background of very high wholesale gasprices, coal-fired plant met 50% of average weekday demand, compared with 40%under more normal conditions. The diversity of its primary fuel sources enabledSSE to manage its exposure to changes in primary fuel prices by balancing itsgas portfolio with a coal portfolio. As part of SSE's single value chain inGeneration and Supply, this diversity also enabled SSE to delay increases inelectricity and gas prices for domestic customers. The stations also 'co-fire' fuels from renewable sources (biomass) in order todisplace fossil fuels, thus reducing the impact of carbon emissions resultingfrom their operation. The resulting output of electricity qualifies forRenewables Obligation Certificates (ROCs). During 2005/06, their outputqualifying for ROCs was around 795GWh, an increase of 9.8% on the previous year. Coal and Biomass Generation - Investment Following investment of around £20m, SSE has developed additional facilities toincrease further the ability to co-fire fuels from renewable sources at bothpower stations. The installation of new 'direct injection' burners at thestations gives them the ability to generate a total of up to 1,500GWh per yearof output qualifying for ROCs. SSE has opted in to the Large Combustion Plant Directive (LCPD) all of thecapacity at Fiddler's Ferry and half of the capacity at Ferrybridge and, in linewith that, is installing Flue Gas Desulphurisation (FGD) equipment in aninvestment estimated to be around £225m. Following the installation of the FGDequipment, which is expected to be completed during 2008, restrictions on thestations' ability to generate electricity between 2008 and 2015 will be liftedand they will be able to remain open beyond 2015. SSE believes that installing FGD represents a good investment opportunity and astep forward in environmental terms. It will also extend the contribution of itscoal-fired plant to the security of the UK's energy supplies and means that SSEwill continue to have the country's most diverse generation portfolio. To complement the investment in FGD, SSE is investing £16m in installingre-designed high-pressure turbines and static blades at all four units atFiddler's Ferry and at two units at Ferrybridge. This will increase theirthermal efficiency by around 1.4%, resulting in significant fuel savings anddelivering reductions in emissions of carbon dioxide. In Budget 2006, the government stated that carbon abatement technologies whichenable fossil fuels to be used with substantially reduced carbon emissions,could make an important contribution to meeting the UK's energy policyobjectives. SSE has entered into a partnership with Mitsui Babcock, Siemens andUK Coal with a view to installing 'cleaner coal' technology at Ferrybridge,comprising a 500MW Supercritical Boiler, with a thermal efficiency of over 45%,and the subsequent deployment of post-combustion carbon capture equipment. The partnership's priorities will include the identification of secure suppliesof coal, which may provide opportunities for deep-mined coal in the UK. Thepartners expect to make a final decision on whether to make this investment inearly 2007. Installation of the Supercritical Boiler and related plant to meetall established environmental standards would require investment by SSE ofaround £250m. As the UK Energy Minister observed, the winter of 2005/06 demonstrated the valueof coal as part of the UK's diverse electricity generating mix. He also pointedout that cleaner generation is essential if coal is to survive the shift to moresustainable forms of energy. If SSE proceeds with the installation of theSupercritical Boiler at Ferrybridge, it will take its investment in cuttingemissions from its coal-fired power plant to over £500m. Hydro and Wind Generation - Operations The output of refurbished hydro electric stations with capacity of up to 20MWqualifies for ROCs and therefore attracted a premium price of around £44/MWhduring 2005/06. In total, SSE has 404MW of capacity in its sub-20MW stations(including the new 3.5MW Kingairloch plant which was officially opened by theSecretary of State for Scotland in August 2005 and the new 7MW plant atFasnakyle, which has now been completed). The ability to qualify for ROCs provided an incentive for SSE to invest in therefurbishment of its smaller hydro electric stations and a total of 66 hydroelectric stations were refurbished under a programme, which began in 2002 andwhich was completed in September 2005. This represents a major landmark in SSE's£350m programme of investment in refurbishing its existing hydro electric powerstations and in developing new hydro capacity. Water running off into reservoirs during 2005/06 was 7% below the long-termaverage and significantly lower than in the previous year, when it was 14% abovethe long-term average. Total hydro output was 3,054GWh, also lower than thelong-term average, and compared with 3,544GWh in the previous year. Withinthis, SSE's ROC-qualifying hydro output during the year was 1,428GWh, comparedwith 1,448GWh in the previous year. The Tangy, Spurness, Artfield Fell and Hadyard Hill wind farms also contributed127GWh of ROC-qualifying output during the year, compared with 42GWh from SSE'sthen operational wind farms in 2004/05. Assuming average 'run off' and typical wind conditions, SSE expects that theROC-qualifying output from its hydro and wind generation for 2006/07 as a wholewill be over 1,800GWh. The completion of the programme of hydro refurbishment and of the Hadyard Hillwind farm (see 'Wind Generation' below) means that SSE now has 566MW ofROC-qualifying capacity and so is more than half way towards its target ofhaving around 1,000MW of such capacity, which it hopes to achieve before the endof this decade. Future developments will, however, depend on the progress ofplanning applications. Hydro and Wind Generation - Investment The Renewables Obligation Order 2005 came into force on 1 April 2005 andincreased the UK's target for electricity generated from renewable sources to15.4% by 2015/16. This confirmed the important part that hydro and windgeneration will have to play in the future, and the framework for investment inrenewable energy, based around the Obligation, remains positive. In July 2005, SSE received consent for, and decided to proceed with, theconstruction of what will be the UK's second largest conventional hydro-electricstation at Glendoe, near Loch Ness. With an installed capacity of around 100MW,Glendoe will produce in an average year around 180GWh of electricity qualifyingfor ROCs. When synchronised, it will be able to generate electricity at fullload within 30 seconds. The development of Glendoe will require investment ofaround £140m. The Prime Minister and the First Minister of Scotland visited the site inFebruary 2006 to mark the start of construction work. If the project goesaccording to schedule, it will begin generating electricity commercially fromthe winter of 2008/09. SSE's first wind farm, at Tangy in Argyll (13MW), has been operating since 2003.Its second wind farm, at Spurness (9MW) on the Orkney Islands, was officiallyopened in March 2005, and its third wind farm, Artfield Fell (20MW) inWigtownshire, was officially opened by the Energy Minister in July 2005. Construction work at the wind farm at Hadyard Hill in Ayrshire was completed andin March 2006 it became the first ever wind farm in the UK to generate over100MW of electricity. With a total installed capacity of 120MW, it takes SSE'sportfolio of wind farms to 162MW. This will increase to 168MW following thecompletion in 2007 of the construction work to add 6MW to the existing wind farmat Tangy. These schemes comprise the first phase of SSE's wind energydevelopment plans and, on the completion of the extension at Tangy, will haverequired investment of £125m. SSE is also continuing to develop plans for the next phase of its investment inwind energy. During 2006/07, it hopes that its applications in respect of sevenwind farms in Scotland with a total capacity of 361MW will be determined andapproved. This includes Drumderg (32MW), Gordonbush (87MW), Blackcraig (69MW),Fairburn (35MW) and Achany (40MW). It also includes sites at Toddleburn (36MW) and Calliachar (62MW) which SSE hasacquired, subject to planning consent for both projects being secured and gridcapacity becoming unconditional at Calliachar. The development of these sevensites, if consented, will require investment of over £400m over the next fewyears. Nevertheless, the process for considering other applications for consent tobuild wind farms, including those proposed by SSE, is proving to be arduous andprolonged. The applications to build wind farms at Drumderg (32MW) andGordonbush (87MW) have both been in the planning process for almost three years,but have yet to be finally determined - a rate of progress which is slow anddisappointing. The Drumderg proposal is the subject of a Public Inquiry which got under wayduring March 2006. The Highland Council agreed The Highland Renewable EnergyStrategy and Planning Guidelines in May 2006 and the proposed wind farm atGordonbush is located in a preferred area for wind farm developments. Beyond this programme of investment, other opportunities are also beingexamined. In line with that, SSE and Viking Energy, the company formed torepresent Shetland Island Council's interests in large-scale wind energydevelopment in Shetland, have signed a Memorandum of Understanding which isexpected to lead to the establishment of a joint venture aimed at developing onthe Shetland Islands a wind farm with a capacity of up to 600MW. Viking Energy'sinvolvement would make the scheme the largest community-backed wind farmdevelopment in the world. A planning application for consent to build the wind farm is expected to besubmitted during 2006. In advance of that, RSPB has commented that the proposalhas avoided the most important designated wildlife areas in Shetland and that 'the degree of co-operation with conservation organisations on research andsurvey into wildlife has established a new level of best practice'. Theproposal is subject to, amongst other things, being able to demonstrate to Ofgemthe viability of a sub-sea cable from Shetland to the mainland of Scotland. SSE's proposal to develop a 250MW wind farm on the Western Isles has beencomplicated by Scottish Ministers' decision to refer to the Scottish Land Courtthe interposed lease over the site of the proposed wind farm. Ministers havesaid that they are unable to say how long it will take the Court to make itsdetermination or even whether the process will end there, as any decision willbe subject to appeal. New Technologies Investment in the research, development and demonstration of new technologiesfor generating electricity from renewable sources is a key part of thegovernment's energy policy, and is part of SSE's strategy to remain the UK'sleading generator of electricity from renewable sources. It is investing around £10m in a project, with Talisman Energy UK, to deploy two5MW demonstrator wind turbines in deep water in the Moray Firth. Subject tosuitable weather conditions being available, the turbines will be deployed inthe water during the summer of 2006 with electricity being generated from 2007.In addition, SSE's marine energy venture, Renewable Technology Ventures Ltd(RTVL), is on course to deploy its 2.4MW tidal underwater turbine demonstratorat the European Marine Energy Centre in Orkney during 2007/08. SSE is also investing up to £2.4m in a fund to support renewable energy projectsand technologies being developed by companies in the east of Scotland. The fundwill be managed by a subsidiary of Sigma Technology Group. The ten-year fundwill have a total initial value of up to £6m and an investment period of threeyears. SSE expects that its investment will yield business developmentopportunities in technologies which have the potential to help the UK meet itstargets for reducing emissions of carbon dioxide while being capable ofgenerating significant amounts of electricity. Its first investment was inEdinburgh-based Ocean Power Delivery. SSE's investment in the project to generate 'de-carbonised' electricity fromhydrogen at Peterhead Power Station fully complements its diverse interests ingenerating electricity from renewable sources, as does its consideration of theissues surrounding the development of 'clean coal' technologies at Ferrybridge,including research by Heriot Watt University on the prospects for carbon capturenear the station. With interests in emerging technologies, including micro generation technologies(see 'Energy Services' below), allied to its established capability ingenerating electricity from the more mature technologies of hydro, onshore windand biomass, SSE has the broadest range of interests in the UK in zero- andlow-carbon electricity generation technologies. Generation Priorities for 2006/07 During 2006/07, SSE's key objective in generation will be to ensure that itsdiverse portfolio of power stations is available to generate electricity inresponse to customer demand and market conditions, while complying fully withall safety standards and environmental regulations. It will also be working to ensure that the installation of flue gasdesulphurisation equipment at Fiddler's Ferry and Ferrybridge and thedevelopment of the Glendoe hydro electric scheme proceed on time and on budget.It also hopes to secure consent for the construction of additional wind farmcapacity at up to seven sites with a total capacity of 361MW and to identify newopportunities to invest in gas-fired generation. There are also significantdecisions to be taken in terms of whether to go ahead with the projects togenerate 'de-carbonised' electricity at Peterhead and to install a SupercriticalBoiler and post-combustion carbon capture equipment at Ferrybridge. Energy Supply SSE's energy supply business had over 6.7 million customers as at 31 March 2006,a net gain of 600,000 during 2005/06. SSE now has 2.2 million more customersthan at the start of 2002, an increase of almost 50%. Within the overall total,SSE's business customers now cover almost 400,000 sites throughout GreatBritain. SSE's policy is to seek to protect its domestic customers from the worst impactsof volatile wholesale energy prices and to delay for as long as possible anyincreases in prices for gas and electricity. It has, therefore, increasedprices for domestic customers more slowly than its major competitors. When thelatest increase was announced in March 2006, SSE gave a commitment to holdelectricity and gas prices at their revised levels until at least the start of2007. SSE's decisions to delay price rises have saved a typical gas andelectricity customer around £100 since the start of 2004, compared with whatthey would have paid had SSE increased prices at the same time as the UK'slargest energy supplier. The outlook for gas and electricity prices remains uncertain. Nevertheless, SSEwill seek to maintain its reputation for responsible pricing and for protectingits customers from the worst impacts of volatile wholesale energy markets. Itbelieves that this reputation for restraint has contributed to the sustainedgrowth in the number of energy supply customers which has been achieved inrecent years, and will support the achievement of additional growth in thefuture. According to the Domestic Retail Market Report published by Ofgem in February2006, SSE's three regional brands - Scottish Hydro Electric, Southern Electricand SWALEC - have been the most successful of the 'incumbent' electricitysuppliers in the 14 regions in Great Britain in maintaining their market sharewithin the competitive market. In support of the Scottish Hydro Electric brand SSE announced in March 2006 amajor three-year sponsorship of the Camanachd Cup. This complements thewell-established sponsorship of the Southern Electric Premier Cricket League.These programmes will be followed by a SWALEC-supported sports initiative insouth Wales. Customer Service Equally important to success in Energy Supply is maintaining the highestpossible standards of customer service. The leading annual independent study, byJD Power, published in November 2005, found that SSE has the highest level ofcustomer satisfaction among UK electricity suppliers and the second highestamong gas suppliers. Despite the significant growth in customer numbers, SSE secured during 2005/06 areduction of almost 15% in the number of customer complaints sent to energywatchfor resolution, to 1,692 - the third successive year in which a significantreduction in the number of complaints has been achieved. In the statisticspublished by energywatch in March 2006, SSE had the lowest rate of complaints inrespect of all three categories: account and billing matters; direct selling;and transfers between companies. SSE believes that a high quality of service will become an increasinglyimportant part of its customer proposition - and that customers' expectations ofthe service their energy supplier should provide will increase. In line withthis, it has implemented a new Domestic Energy Customer Charter, the first ofits kind in the UK. It makes a series of specific commitments in respect ofcustomer service, such as a pledge to respond to letters from customers withinfive days of receipt and the right to independent arbitration where necessary toresolve issues. The introduction of the Charter is part of the wider performance improvementprogramme in SSE's Customer Service division. This programme is geared toimproving significantly customers' experience in dealing with SSE and, amongstother things, reducing the number of customers lost to other suppliers - an areain which there is scope for SSE to improve. The programme involves a major re-organisation and simplification of thedivision, around the customer lifecycle, with over 30 process re-designs. Theseinclude, for example, increasing the frequency of reviews of direct debitpayments being made by customers, to every six months, so they can be satisfiedtheir payments are in line with their actual energy consumption. As part of theproject, it is expected that the introduction of computer-telephony integration(CTI) will be completed well before the end of 2006. It will, amongst otherthings, reduce the number of 'menu' options customers have to deal with beforethey speak to a customer service adviser. Product Development Energy supply remains intensely competitive, and key to long-term success willbe greater success in gaining and retaining customers' loyalty, and theperformance improvement programme is designed to achieve that, as is productdevelopment. In line with this, SSE has launched energyplus pulse. For everycustomer who switches gas and electricity supply to energyplus pulse, SSEdonates £10 a year to the British Heart Foundation. It forms part of the energyplus suite of 'loyalty' products which are availablefrom SSE and which now have, in total, over 700,000 customers. In a highlycompetitive market, SSE believes that its ability to offer a range of 'loyalty'products positions it well to retain customers for the long term. In addition, SSE has continued to look at options for new products, given theimportance of developments in this field as a key contributor to long-termsuccess in energy supply. For example, for customers who like peace of mind andwish to guard against future uncertainty in energy prices, SSE has introduced a'fixed price' tariff for gas and electricity. While the fixed price is higherthan the revised prices which took effect on 1 May 2006, it is guaranteed until2010. Energy Services An increasing number of supply customers are likely to seek a wider range ofenergy-related services, covering renewable, sustainable and energy efficientproducts. In Budget 2006, the government said that supplying energy on anenergy services basis helps shift the focus of producers and customers from thesupply of units of electricity and gas to the supply of the overall services forwhich energy is used. SSE is very well-positioned to capture a significant proportion of thisdeveloping market over the remainder of this decade because it combinesestablished contracting, private networks, connections and appliance retailbusinesses with a portfolio of micro generation technologies. In terms of micro generation technologies, SSE has invested £1.12m to increaseits stake in Edinburgh-based Swift Turbines to 10% of the share capital, withoptions over a further 20%, and £2.0m to increase its stake in solarcentury to13.3% of the share capital. Swift Turbines has developed what is believed to bethe world's first feasible rooftop-mountable wind energy system and London-basedsolarcentury is the largest independent solar photovoltaics company in the UK.In addition to its investments, SSE is working with both companies to market theprovision and installation of the technologies to an increasing number ofcustomers in the UK. SSE is also launching a new domestic boiler installation and maintenance andrepair service for gas central heating systems. The initial offering is beingmade in 13 postcode areas covering 3.5 million households. The product featuresan annual inspection, full breakdown and emergency cover and a 24-hour, 365-daymanned customer helpline. It covers customers' entire gas central heatingsystem, including the boiler, pipe work, radiators, cylinders and tanks. The establishment by SSE of an Energy Services unit anticipated a growing demandfor services 'beyond the meter'. Its ability to provide these services is anatural long-term complement to its existing business of distributing andsupplying energy to the meter. Energy Supply Priorities in 2006/07 During 2006/07, SSE will seek to capitalise on its strong regional brands, itsbest-in-sector customer service, its responsible pricing policy and its range ofvalue-adding offers to increase further its number of energy supply customers.Amongst other things, this will require a continuing focus on delivering thehighest possible standard of service to customers and completing the delivery ofthe performance improvement programme in the Customer Service division, with theexplicit aim of increasing customer loyalty. SSE is committed to keepingdomestic electricity and gas prices at their current levels until at least thestart of 2007. As the energy supply market evolves to include more energy services, SSE willseek to increase further its activity in gas and electricity infrastructure,microgeneration and in particular the provision and maintenance of gas boilers.It will actively encourage the UK government, in the context of its review ofenergy policy, to develop further the framework for energy services in general,including micro generation. CONTRACTING, CONNECTIONS AND METERING Key points: • Operating profit* up 5.2% to £50.4m.• Acquisition of Harrison Smith in February 2006.• Secured Leeds City Council street lighting PFI.• 50,800 electrical and gas connections completed.• Number of 'out-of-area' electricity networks up to 19, with agreement on a further 12. Introduction to Contracting, Connections and Metering SSE's contracting business, Southern Electric Contracting, has three main areasof activity: industrial, commercial and domestic electrical contracting;electrical and instrumentation engineering; and street and highway lighting. Itis one of the largest electrical contracting businesses in the UK and operatesfrom 48 regional offices throughout Great Britain and trades as SWALECContracting in Wales, Hydro Contracting in Scotland, Eastern Contracting in theeast of England and Harrison Smith in the north of England. SSE's national Connections business provides all utility infrastructures andconnections for new developments. It finances, plans and constructs projectsand owns and operates gas, electricity and telecommunications networksthroughout the country. During the Distribution Price Control Review for 2005-10, Ofgem reviewed theprice control treatment of the provision, installation and maintenance of metersand separated it from the electricity distribution RAV. This resulted in areduction in SSE's RAV of £23m on 1 April 2005. Contracting, Connections and Metering Overview Contracting, Connections and Metering delivered operating profit* of £50.4mduring 2005/06, an increase of 5.2%. This includes £3.4m of operating profitfrom Thermal Transfer, SSE's specialist contracting business, which was sold toETDE on 31 March 2006 for £20m. Contracting The sale of Thermal Transfer will allow SSE's core contracting business,Southern Electric Contracting (SEC), to develop its mechanical and electricalcapability. It is continuing to make significant progress. It acquired the Yorkshire-based plumbing and heating contractor, Harrison Smith(Batley) in February 2006 in a transaction with a value of around £1.2m. Theacquisition has given SEC the scope to offer a more comprehensive range ofelectrical, heating and plumbing services to customers in the north of England.It followed the acquisition in January 2005 of the electrical contractingdivision of what was previously Eastern Contracting, a business which is now afully-integrated part of SEC. SEC's joint venture with Interserve, 'PriDE', has now completed the first yearof a seven year contract worth around £400m to provide mechanical and electricalmaintenance for over 100 Ministry of Defence sites in London and the south eastof England. The profit contribution of the venture in its first year was inline with that expected when the contract was awarded. In partnership with the asset finance division of The Royal Bank of Scotland,SEC also has contracts with a value of over £700m to replace and maintainstreetlights for four local authorities in England under the Private FinanceInitiative. This includes the largest-ever street lighting PFI in the UK, agreedwith Leeds City Council in February 2006. SSE has contracts with 28 localauthorities to maintain around one million lighting units, making it the UK'slargest street-lighting contractor and operating profit from SSE's lightingservices activities grew by over 50% during 2005/06. Connections The Connections business completed 42,900 electrical connections during 2005/06.Its rate of connecting new premises to its gas networks continued to grow, andduring the year, it connected a further 7,900 premises, up 12.9% on the previousyear, taking the total number of gas connections now owned by SSE to more than35,000. In addition, the Connections business has continued to expand its portfolio ofelectricity networks outside the Southern Electric and Scottish Hydro ElectricPower Distribution areas. It now owns and manages 19 electricity networksoutside SSE's two electricity distribution areas, a gain of three during theyear. The three new networks are at Waterfront Edinburgh, Braehead Glasgow andDoncaster Interchange. It has also won during 2005/06 a total of 12 newcontracts to provide energy infrastructure, including schemes for CardiffInternational Sports Village, Dagenham and Warrington Golden Square. Theseprojects further demonstrate SSE's capability to provide energy networks tocustomers across the whole of the UK and will take its total number of 'out-of-area' electricity networks to 31. Metering SSE's Metering business provides services to most electricity suppliers withcustomers in central southern England and the north of Scotland. It supplies,installs and maintains domestic meters and carries out metering work in thecommercial, industrial and generation sector. It also offers data collectionservices to the domestic and SME sectors. In total, SSE owns 3.6 million meters and changes around 250,000 meters eachyear as they reach the end of their useful life or to meet customer requests forchanged functionality. Each year, it collects around 5.1 million electricityreadings and 1.3 million gas readings. It is focused on providing an efficientservice in SSE's two licensed electricity distribution areas. Contracting, Connections and Metering Priorities in 2006/07 The priorities for SEC in 2006/07 are to complete the integration of theHarrison Smith business and to make a successful start to the Leeds PFI. It isalso important to ensure that there continues to be good performance in otherlong-term contracts, such as the Ministry of Defence 'PriDE' contract. Givensuch a significant proportion of its business is 'repeat', its over-ridingpriority is to deliver a high standard of service to all customers in all of thesectors in which it operates. The connections business' focus will be on the successful delivery of a growingnumber of utility connections and on continuing to expand its range ofelectricity networks outside the Southern Electric and Scottish Hydro ElectricPower Distribution areas. In particular, it expects to construct and energise12 new out-of-area networks. The Metering business will continue to focus ondelivering a good service at competitive prices. GAS STORAGE Key points: • Operating profit* up 43.7% to £27.3m.• 100% availability to meet customers' nominations.• Nine wells drilled at the Aldbrough development.• 'Leaching' under way at five caverns. Introduction to Gas Storage SSE owns and operates the UK's largest onshore gas storage facility at Hornseain East Yorkshire. Nine man made salt cavities have been leached into a saltlayer 1.8 kilometres below the surface creating 325 million cubic metres of gasstorage space. Gas can be withdrawn at a rate of 18 million cubic metres perday, the equivalent of the requirements of around four million homes. Theservices offered at Hornsea provide customers with a reliable source offlexibility with which to manage their supply/demand balance and exploit marketopportunities. Gas Storage Operations Gas Storage delivered an operating profit* of £27.3m during 2005/06, an increaseof 43.7% compared with the previous year. The value of, and demand for, gasstorage facilities in the UK remains high and, in a volatile gas market, SSE hascontinued to enter into new contracts to provide storage at a significantlyhigher value than the contracts they replace. The facility at Hornsea has a good record of reliability and during 2005/06 was100% available to customers except in instances of planned maintenance. Thisenables customers to manage their gas market risks and exploit gas tradingopportunities. Gas Storage Investment SSE's joint venture with Statoil (UK), in which SSE is investing £150m, todevelop what will become the UK's largest onshore gas storage facility atAldbrough, is continuing to make good progress. With a total new capacity ofaround 420 million cubic metres, of which SSE will have the ownership interestin 280 million cubic metres, Aldbrough will provide essential additional gasstorage for the UK energy industry. Nine caverns will be used to store gas at Aldbrough. They are being created bydirectionally drilling from a central processing area down to the salt strata.Seawater is then pumped into the boreholes to dissolve the salt and form thecaverns. This is the process known as 'leaching'. All nine wells have beendrilled and the leaching is at full capacity, taking place at five caverns. Theprocess will take another three years to complete, with the first cavernexpected to be ready to store gas in 2007. Gas Storage Priorities in 2006/07 All storage capacity at Hornsea for 2006/07 was sold before the end of March2006. SSE's priorities in Gas Storage during the year are to ensure thatHornsea maintains its excellent record of reliability and to ensure that theAldbrough development remains on course to begin storing gas in 2007, with thecompletion of the leaching of the first storage cavern by the end of thisfinancial year. TELECOMS Key points: • Operating profit* up 22.1% to £13.2m.• Increased sales to major customers.• Improved project delivery. Introduction to Telecoms SSE Telecom provides radio sites for local authorities, mobile operators andemergency services throughout central southern England and the north ofScotland, enabling customers to improve their network coverage and capacity.Its subsidiary, Neos Networks, operates a 7,500km UK-wide telecoms network,including 1,100km of underground and overhead fibre optic cable installed onSSE's electricity network, providing networking services to other telecomsproviders, companies and public sector organisations. Telecoms Operations SSE's combined Telecoms business (SSE Telecom and Neos) achieved an operatingprofit* of £13.2m during 2005/06, compared with £10.8m in the previous year, anincrease of 22.1%. The business offers customers a national telecoms network,and has a UK-wide sales force and a broad range of products including Ethernet,SDH Leased Lines and Dark Fibre. As a subsidiary of SSE, it is also able toposition itself as one of the UK's most financially secure telecoms networkoperators, which gives a significant competitive advantage. The improvement in performance during 2005/06 was mainly the result of highersales, and important contracts have recently been signed with a diverse range ofmajor organisations, such as Opal Telecom (part of the Carphone Warehouse),College of Law (the largest provider of legal education and training in Europe)and Savvis (for easyJet). During the year, the business also secured furtherimprovements in the quality of project delivery. Telecoms Priorities in 2006/07 SSE's priority in Telecoms in 2006/07 is to continue to grow its sales, usingits already-established nationwide network, with its competitive range ofproducts targeted at commercial and public sector customers. EXCEPTIONAL ITEMS TXU Europe Group plc In August 2005, SSE received its second net distribution payment, of £41.6m,from the administrators of TXU Europe Group plc and certain of its subsidiaries,with regard to its claim of £294.2m in respect of a 14-year contract originallyentered into in 1997. A third net distribution payment, of £50.5m, was receivedin January 2006. To these has been added SSE's share (£16.7m) of thedistributions paid by the administrator to Barking Power Ltd, the operators ofBarking Power Station, in which SSE now has a total stake of 30.4%. This givesa total receipt during 2005/06 of £108.8m. These payments followed the first net distribution payments of £159.1m to SSEand SSE's share of £22.3m to Barking Power Ltd, which were received from theadministrator in March 2005. Following the second and third payments, SSEexpects to receive further distributions later in 2006 and that, in total, wellover 90% of its claim will be settled. Thermal Transfer In March 2006, SSE completed the sale of Thermal Transfer to ETDE, theelectrical contracting/maintenance subsidiary of the French-owned BouyguesConstruction. The profit on the disposal was £18.6m. CAPITAL EXPENDITURE Investment and capital expenditure, excluding acquisitions, totalled £502.1mduring 2005/06, compared with £383.5m in the previous year, an increaseforeshadowed in the Annual Report 2005. Capital expenditure in Power Systems was £172.1m, compared with £171.5m in theprevious year. A major part of the ongoing capital expenditure programme isfocused on the replacement of parts of the electricity network that date back tothe 1960s. In addition, there was investment of £133.6m for growth in Generation during theyear, with the refurbishment work carried out at hydro electric power stations,the development of new hydro electric and wind energy schemes leading to theproduction of ROC-qualifying electricity and investment in biomass co-firing andother developments at Fiddler's Ferry and Ferrybridge. As well as Power Systems and Generation, £46.7m was invested in the ongoingdevelopment of the new gas storage facility at Aldbrough. In addition, inFebruary 2006, SSE acquired a building in Havant for £10.5m which it is nowrefurbishing and which will become its regional base for southern England. Thiswill enable SSE to bring together in a single, higher-quality building employeeswho currently work in separate sites in Portsmouth and Havant, which will bevacated and sold. Within the overall total, capital expenditure for growth was £287.7m during 2005/06, including £133.6m of the overall capital expenditure in Generation Aspreviously stated, capital expenditure will continue to be significant duringthe rest of this decade, with investment in generation, including FGDinstallation, electricity networks and gas storage, and is expected to be over£650m in 2006/07. All investments are expected to achieve returns which aregreater than the cost of capital and are expected to enhance earnings. FINANCIAL MANAGEMENT Treasury Policy SSE's operations are financed by a combination of retained profits, bankborrowings, long-term debt issuance and commercial paper. As a matter ofpolicy, a minimum of 50% of SSE's interest rate exposure is kept at fixed ratesof interest. Within this policy framework, SSE borrows as required, at bothfixed and floating rates, with interest rate swaps and forward rate agreementsbeing used to achieve the desired profile. All borrowings in foreign currenciesare swapped back into Sterling. At 31 March 2006, 83.2% of SSE's borrowingswere at fixed rates, after taking account of interest rate swaps. Liquidity policy requires SSE to ensure that it has committed borrowings andfacilities equal to at least 105% of forecast borrowings over a rolling 12 monthperiod. SSE had undrawn committed bank facilities of £650m, with a weightedaverage period, until maturity, of 3.7 years as at 31 March 2006. As the United Kingdom is SSE's main area of operation, foreign currency risk islimited mainly to procurement contracts, fuel purchases and commodity hedgingtransactions. Its policy is to hedge all material foreign exchange exposuresthrough the use of forward currency purchases and/or derivative instruments.Indirect exposures created by SSE's gas purchases are similarly hedged on anongoing basis. Net Debt and Cash Flow During 2005/06, SSE's net debt increased by £736.4m to £2,166.4m. Net debtincludes £26.2m owed by the PFI streetlighting companies, which is non-recourseto SSE. The increase followed: the £505m acquisition cost of the 50% stake inSGN; increased capital expenditure for growth, principally in electricitygeneration and gas storage, totalling £287.7m; and an adverse movement inworking capital. This reflected higher commodity costs incurred during the yearwhich were lagged by cash collections from electricity and gas customers.Working capital is forecast to improve in 2006/07 as this lag is reversed duringthe year. There was a cash inflow of £92.1m from the administration of TXU businesses. InApril 2004, SSE acquired over 300,000 electricity and gas customers and thecustomer debt book from Atlantic Electric & Gas for £85.3m. In the two yearssince the acquisition, all of the money which SSE paid for the customer debtbook has been collected. Borrowings and Facilities The objective for SSE is to maintain a balance between continuity of funding andflexibility, with a range of maturity dates. Its average age of debt as at 31March 2006 was 12.7 years, compared with 12.0 years as at 31 March 2005. The maturity profile continues to reflect the medium-to-long term nature ofSSE's underlying assets and means that its debt structure continues to be in astrong position going forward, with around £1.85bn of borrowings in medium tolong-term funding in the form of issued Bonds and European Investment Bankborrowings. A total of 18.7% of SSE's borrowings will mature in the 12 monthsto March 2007. In February 2006, SSE issued a £325m long-dated sterling bond for SouthernElectric Power Distribution to pre-finance pending maturities and to providefunding for its capital expenditure programme. This bond, which matures in2037, has a coupon of 4.625%, which will help to reduce significantly SSE'sinterest costs over the long term. Net Finance Costs The basis of the presentation of net finance costs has changed under IFRS andthe table below reconciles published net finance costs to adjusted net financecosts, which SSE believes is a more meaningful measure. In line with that, SSE'sadjusted net finance costs in 2005/06 was £155.3m, compared with £90.9m in theprevious year. Of the £155.3m, SGN interest was £54.1m (net of loan stockinterest payments to SSE). March 06 March 05 £m £m Published net finance costs (Note 6) 89.4 61.3add/(less) Share of JCE*/Associate interest 97.3 17.2 Convertible debt IAS 32 adjustment (3.6) - Interest on pension plan liabilities (100.0) (94.7) Return on pension plan assets 115.7 107.1 Movement on derivatives (43.5) -Adjusted net finance costs 155.3 90.9 *Jointly Controlled Entities The average interest rate for SSE, excluding JCE/Associate interest, during theyear was 5.42%, compared with 5.91% in the previous year. Its underlyinginterest cover was 9.2 times, compared with 9.0 times in the previous year;including interest related to SGN, it was 6.6 times. TAX To assist the transparency of SSE's tax position, the adjusted current taxcharge is calculated as follows: March 06 March 05 £m £m Published tax charge 254.6 229.5add back: Share of JCE/Associate tax 29.9 15.3 less: Deferred tax (37.7) (35.6) Tax on exceptional items and re-measurements (15.3) (27.2) Adjusted current tax charge 231.5 182.0 The effective adjusted current tax rate, based on adjusted profit before tax,was 27.0%, compared with 25.3% in the previous year. The headline tax charge was28.3%, compared with 29.1% in the previous year. BALANCE SHEET SSE maintains one of the strongest balance sheets in the global utility sector,which continues to give it significant competitive advantage in terms of cost offunding and supporting new developments. During the year, the trustees of both the Southern Electric scheme and thescheme for employees at Fiddler's Ferry and Ferrybridge agreed to merge theirfinal salary schemes. The merger has no impact on members' benefits. The mergerhas created an enlarged pension scheme with a more balanced investment strategyand lower costs, giving increased security for all members. In line with the IAS 19 treatment of pension scheme assets, liabilities andcosts, pension scheme liabilities of £284m and a pension scheme asset of £90.2mare recognised in the balance sheet at 31 March 2006, gross of deferred tax.Overall, this represents an improvement of £33.8m compared with the position atMarch 2005. During 2005/06, employer cash contributions to the Scottish Hydro Electricpension scheme amounted to £9.2m. Contributions to the Southern Electric pensionscheme amounted to £46.5m during the year. This includes a contribution towardsthe deficit of £31.7m that was agreed in March 2005, in addition to an ongoingcontribution rate of 19.9% of salaries. As part of the Distribution PriceControl for 2005-2010, it was agreed that allowance for 76% of deficit repaircontributions should be included in price controlled revenue. At 31 March 2006, there was a net asset arising from IAS 39 of £46.5m, beforetax, compared with a net asset of £31.8m, before tax, at 1 April 2005. PURCHASE OF OWN SHARES The Directors of SSE have not exercised their authority to purchase, in themarket, the company's own shares during 2005/06. The Directors are, however,seeking renewal of their authority to purchase, in the market, the Company's ownshares at the Annual General Meeting on 27 July 2006. It remains the policy ofthe Board of SSE to take opportunities to return value to shareholders throughthe purchase of the Company's own shares should the conditions be appropriate. CORPORATE RESPONSIBILITY Safety and the Environment SSE aims to create value for shareholders by running the business with a strongemphasis on safety and on caring for the environment. During 2005/06, the actualnumber of lost time and reportable accidents within the company was 17, the sameas in the previous year. This equates to 1.38 per 1,000 employees, compared with1.54 per 1,000 employees in the previous year which, on this basis, was SSE'sbest-ever safety performance. The number of serious, or potentially serious, road traffic accidents involvingemployees driving company vehicles fell from 24 in 2004/05 to 17 in 2005/06.Performance in 2005/06 equates to 0.28 accidents per 100 vehicles compared with0.42 in the previous year. SSE's target for any given year is zero reportable environmental incidents.There were no such incidents during the 2005/06. Corporate Responsibility Index and Business in the Environment Index Business in the Community's Corporate Responsibility Index provides anauthoritative benchmark for companies to evaluate their management practice infour key areas of corporate responsibility (community, environment, marketplaceand workplace) and performance in a range of environmental and social impactareas material to their business. The results of the Index for 2005, in which over 130 companies participated,were published in May 2006. SSE's score was 97.5%, compared with 93.0% in theprevious year. This placed SSE joint 7th in the Index, compared with joint 14thin the previous year, and made it the joint top-ranked company in its sector. Within the main Index is the Business in the Environment Index. SSE's score was99.20%, compared with 98.80% in the previous year, making SSE best in itssector. STRATEGY AND OUTLOOK In a sector which remains subject to significant change, SSE continues to focuson enhancing and creating value for shareholders from its energy andinfrastructure-related businesses in the UK. The businesses have been expandedin recent years through incremental growth and investment in assets, and theyare well-placed to deliver further growth. That growth will be based on SSE'score strengths, amongst which the achievement of continuous improvement and thedelivery of operational excellence in all activities continue to be fundamental. There are excellent opportunities to grow these businesses further through themajor investment programme planned for the rest of this decade, which will addsignificantly to SSE's asset base in energy networks, electricity generation,energy supply and gas storage. All of this investment is in line with the UK'skey goals of delivering reliable and lower carbon energy supplies. SSE can take advantage of these opportunities because of itscarefully-maintained financial strength. SSE is, therefore, in a very goodposition to expand its businesses further through incremental growth andinvestment in assets and, most importantly of all, to deliver sustained realgrowth in the dividend. Investor TimetablePublication of Annual Report on SSE website 6 June 2006AGM Bournemouth, 27 July 2006Ex-dividend date 23 August 2006Record date 25 August 2006Payment date 22 September 2006Interim results 15 November 2006 Enquiries to: Scottish and Southern Energy plcAlan Young - Director of Corporate Communications + 44 (0)870 900 0410Denis Kerby - Investor and Media Relations Manager + 44 (0)870 900 0410 Financial DynamicsAndrew Dowler + 44 (0)20 7831 3113 There will be an analysts' presentation starting at 09:45GMT at the offices ofFinancial Dynamics, Holborn Gate, 26 Southampton Buildings, London WC2A 1PB. Webcast facility: This is available by going to: www.scottish-southern.co.uk then click on Investor Centre. Telephone conference call: UK Dial in: 0800 073 1340 International dial in: +44 (0) 1452 569 393 Replay facility (for one week) UK local rate no: UK dial-in: 0845 245 5205 UK International no: International dial-in:+44 (0) 1452 550 000 UK PIN (access) no: 9847778 Income Statementfor the year ended 31 March 2006 2006 2005 Before Exceptional Before Exceptional exceptional items and exceptional items and items and certain items and certain certain re-measure- certain re-measure- re-measure- ments re-measure- ments ments (note 5) Total ments (note 5) Total Note £m £m £m £m £m £m Revenue 4 10,145.2 - 10,145.2 7,424.6 - 7,424.6Cost of sales (8,816.4) (14.4) (8,830.8) (6,257.2) (61.0) (6,318.2)Gross profit 1,328.8 (14.4) 1,314.4 1,167.4 (61.0) 1,106.4Operating costs (482.4) - (482.4) (407.6) - (407.6)Other operating income - 92.1 92.1 - 111.2 111.2Gain on disposal of subsidiary - 18.6 18.6 - - -Operating profit before jointly 846.4 96.3 942.7 759.8 50.2 810.0controlled entities andassociatesJointly controlled entities andassociates:Share of operating profit 167.1 16.7 183.8 50.8 22.3 73.1Share of interest (97.3) - (97.3) (17.2) - (17.2)Share of movement on derivatives - (13.0) (13.0) - - -Share of tax (28.8) (1.1) (29.9) (8.6) (6.7) (15.3)Share of profit on jointly 41.0 2.6 43.6 25.0 15.6 40.6controlled entities andassociatesOperating profit 4 887.4 98.9 986.3 784.8 65.8 850.6Finance income 6 164.9 - 164.9 126.8 - 126.8Finance costs 6 (210.8) (43.5) (254.3) (188.1) - (188.1)Profit before taxation 841.5 55.4 896.9 723.5 65.8 789.3Taxation 7 (244.3) (10.3) (254.6) (209.0) (20.5) (229.5)Profit for the year 597.2 45.1 642.3 514.5 45.3 559.8 Attributable to:Equity holders of the parent 597.2 45.1 642.3 514.6 45.3 559.9Minority interest - - - (0.1) - (0.1) 597.2 45.1 642.3 514.5 45.3 559.8 Basic earnings per share 9 74.7p 65.3pDiluted earnings per share 9 72.9p 64.5p Dividends paid in the year 8 £378.8m £330.8m The accompanying notes are an integral part of these accounts. Balance Sheetas at 31 March 2006 2006 2005 Note £m £m Assets Property, plant and equipment 4,646.6 4,386.1 Intangible assets: Goodwill 293.4 292.6 Other intangible assets 297.2 107.8 Investments in associates and jointly controlled entities 703.1 212.0 Other investments 3.3 1.4 Retirement benefit assets 13 90.2 98.9 Deferred tax assets 86.0 97.9 Derivative financial assets 24.8 - Non-current assets 6,144.6 5,196.7 Inventories 164.2 134.1 Trade and other receivables 1,662.9 1,073.7 Cash and cash equivalents 49.9 232.2 Derivative financial assets 157.6 - Current assets 2,034.6 1,440.0 Total assets 8,179.2 6,636.7 Liabilities Loans and other borrowings 417.3 29.4 Trade and other payables 1,834.6 1,361.0 Current tax liabilities 165.4 138.0 Provisions 11 2.8 20.3 Derivative financial liabilities 59.8 - Current liabilities 2,479.9 1,548.7 Loans and other borrowings 1,797.6 1,653.6 Deferred tax liabilities 919.1 888.3 Provisions 11 79.0 91.0 Trade and other payables 396.7 266.3 Retirement benefit obligations 13 284.0 326.5 Derivative financial liabilities 77.5 - Non-current liabilities 3,553.9 3,225.7 Total liabilities 6,033.8 4,774.4 Net assets 2,145.4 1,862.3 Equity: Share capital 430.2 429.4 Share premium 12 90.7 81.6 Capital redemption reserve 12 13.7 13.7 Equity reserve 12 14.6 - Hedge reserve 12 6.6 - Retained earnings 12 1,589.6 1,338.0 Total equity attributable to equity holders of the parent 2,145.4 1,862.7 Minority interest - (0.4) Total equity 2,145.4 1,862.3 Statement of recognised income and expenseFor the year ended 31 March 2006 2006 2005 £m £m Losses on effective portion of cash flow hedges (net of tax) (11.7) -Actuarial loss on retirement benefit schemes (net of tax) (9.9) (12.7)Other movements (5.9) (1.2)Net expense recognised directly in equity (27.5) (13.9)Profit for the year 642.3 559.8Total recognised income and expense for the year 614.8 545.9Cumulative adjustment for the adoption of IAS 32 and 39 36.8 -Total 651.6 545.9 Attributable to:Equity holders of the parent 614.8 546.0Minority interest - (0.1) 614.8 545.9 Cash Flow Statementfor the year ended 31 March 2006 2006 2005 £m £mCash flows from operating activitiesProfit for the year after tax 642.3 559.8Taxation 254.6 229.5Movement on financing and operating derivatives 57.9 -Finance costs 210.8 188.1Finance income (164.9) (126.8)Share of jointly controlled entities and associates (43.6) (40.6)Gain on disposal of subsidiary (18.6) -Pension service charges less contributions paid (22.3) (1.0)Depreciation and impairment of assets 200.1 270.6Amortisation and impairment of intangible assets 3.9 3.5Deferred income released (16.4) (62.3)(Increase)/Decrease in inventories (30.8) 9.5(Increase) in receivables (585.1) (177.9)Increase in payables 436.8 339.4(Decrease) in provisions (14.5) (29.9)Cash invested in own shares for employee share awards (9.5) (2.8)Charge in respect of employee share awards 4.0 1.6Profit on disposal of property, plant and equipment (5.2) (7.7)Loss on disposal of replaced assets 5.2 -Cash generated from operations 904.7 1,153.0 Dividends received from jointly controlled entities 8.0 12.5Finance income received 51.4 20.5Finance costs paid (119.5) (92.5)Income taxes paid (217.9) (152.9)Net cash from operating activities 626.7 940.6 Cash flows from investing activitiesPurchase of property, plant and equipment (529.4) (345.0)Purchase of software (1.2) (2.3)Deferred income received 7.9 3.1Proceeds from sale of property, plant and equipment 16.3 19.5Net proceeds from sale of subsidiary 17.3 -Proceeds from sale of investments - 2.9Loans to jointly controlled entities - (1.0)Loans to associates (0.7) -Investment in Scotia Gas Networks plc (note 10) (505.0) -Loans repaid by jointly controlled entities 10.8 10.8Loans repaid by associates 7.3 2.7Investment in associate (15.0) -Increase in other investments (1.9) -Purchase of businesses and subsidiaries (0.6) (339.0)Net cash from investing activities (994.2) (648.3) Cash flows from financing activitiesProceeds from issue of share capital 9.9 9.7Dividends paid to company's equity holders (378.8) (330.8)New borrowings 552.4 331.3Repayment of borrowings - (98.3)Net cash from financing activities 183.5 (88.1) Net (decrease)/increase in cash and cash equivalents (184.0) 204.2 Cash and cash equivalents at the start of year 227.8 23.6Net (decrease)/increase in cash and cash equivalents (184.0) 204.2Cash and cash equivalents at the end of year 43.8 227.8 Notes on the Financial StatementsFor the year ended 31 March 2006 1. Financial Statements The financial information set out in this announcement does not constitute theGroup's statutory accounts for the years ended 31 March 2006 or 2005 within themeaning of Section 240 of the Companies Act 1985. Statutory accounts for 2005,which were prepared under UK Generally Accepted Accounting Practices (UK GAAP),have been delivered to the Registrar of Companies and those for 2006, preparedunder International Financial Reporting Standards as adopted by the EU (adoptedIFRS), will be delivered in due course. The auditors have reported on thosefinancial statements; their reports were (i) unqualified; (ii) did not includereferences to any matters to which the auditors drew attention by way ofemphasis without qualifying their reports; and (iii) did not contain statementsunder sections 237(2) or (3) of the Companies Act 1985. This preliminaryannouncement was authorised by the Board on 30 May 2006. 2. Basis of preparation The financial statements set out in this announcement and the financialstatements of the Group have been prepared on the historical cost basis exceptthat the following assets and liabilities are stated at their fair value:derivative financial instruments and financial instruments classified asavailable for sale. The financial statements have also been prepared inaccordance with International Financial Reporting Standards and itsinterpretations as adopted by the European Union (adopted IFRS). The financialstatements are presented in pounds sterling. The financial statements are the first annual financial statements of the Groupprepared in accordance with adopted IFRS and the Group has applied a number ofthe exemptions contained within IFRS 1 First-Time Adoption of InternationalFinancial Reporting Standards including: * IAS 32 Financial Instruments: Disclosure and Presentation and IAS 39 FinancialInstruments: Recognition and Measurement, have been adopted retrospectively asat 1 April 2005 but, as permitted by the transition provisions of IFRS 1, theGroup has not restated comparative information. * Business Combinations which took place prior to 1 April 2004 have not beenreassessed under IFRS 3 Business Combinations. * The Group has elected, under IAS 16 Property, Plant and Equipment, to measurea category of assets, Hydro Civil Assets, based on deemed cost. * The application of IFRS 2 Share-based Payments, has been restricted to equityinstruments that were granted on or after 7 November 2002 and had not vested by1 January 2005. In accordance with IAS 1 Presentation of Financial Statements, the Group hasdisclosed additional information in respect of jointly controlled entities andassociates, exceptional items and certain re-measurements on the face of theincome statement to aid understanding of the Group's financial performance. Anitem is treated as exceptional if it is considered unusual by nature and scaleand of such significance that separate disclosure is required for the financialstatements to be properly understood. The impact of the transition to adopted IFRS, and the significant accountingpolicies of the Group which have altered as a result of the adoption of IFRS,were explained in the interim results statement for the six month period ended30 September 2005 which was published on 16 November 2005. This is explained indetail in the Group's Statutory Financial Statements for the year ended 31 March2006. 3. Basis of consolidation of the Group The financial statements consolidate the financial statements of Scottish andSouthern Energy plc and its subsidiaries together with the Group's share of theresults and net assets of its jointly controlled entities and associates. The results of subsidiary undertakings acquired or sold are consolidated fromthe date that control commences until the date control ceases using theacquisition method of accounting. The Group's share of the total recognised gains and losses of associates areincluded on an equity accounted basis from the date that significant influencecommences until the date significant influence ceases. Investments in jointly controlled entities are accounted for under the equitymethod of accounting from the date that joint control commences until the datejoint control ceases. Jointly controlled operations are businesses which useassets and liabilities that are separable from the rest of the Group. In thesearrangements, the Group accounts for its own share of property, plant andequipment, carries its own inventories, incurs its own expenses and liabilitiesand raises its own finance. Notes on the Financial Statementsfor the year ended 31 March 2006 4. Segmental information Primary reporting format - business segments The primary segments are as reported for management purposes and reflect theday-to-day management of the business. The Group's primary segments are thedistribution and transmission of electricity in the North of Scotland, thedistribution of electricity the South of England (together referred to as PowerSystems), the generation and supply of electricity and sale of gas in GreatBritain (Generation and Supply). The Group's 50% equity share in Scotia GasNetworks plc, a business which distributes gas in Scotland and the South ofEngland (note 10), is included as a separate segment where appropriate due toits significance. Analysis of revenue and operating profit by segment is provided below. Allrevenue and profit before taxation arise from operations within Great Britainand Ireland. a) Revenue by segment Intra- Intra- Total Total segment segment External External revenue revenue revenue revenue revenue revenue 2006 2005 2006 2005 2006 2005 £m £m £m £m £m £mPower Systems Scotland 261.1 258.9 104.1 188.1 157.0 70.8 England 415.9 369.2 204.0 185.5 211.9 183.7 677.0 628.1 308.1 373.6 368.9 254.5Generation and Supply 9,287.8 6,766.1 27.4 15.7 9,260.4 6,750.4Other businesses 783.3 645.5 267.4 225.8 515.9 419.7 10,748.1 8,039.7 602.9 615.1 10,145.2 7,424.6 Revenue from the Group's investment in Scotia Gas Networks plc (the Group'sshare being £261.5m) is not recognised as revenue under equity accounting. b) Operating profit by segment 2006 Adjusted JCE / Before Exceptional Total Associate exceptional items and share of items and certain re- interest and certain re measurements tax (i) -measurements £m £m £m £m £m Power Systems Scotland 141.8 - 141.8 - 141.8 England 226.1 - 226.1 - 226.1 367.9 - 367.9 - 367.9Scotia Gas Networks plc 102.7 (97.9) 4.8 (9.1) (4.3)Energy Systems 470.6 (97.9) 372.7 (9.1) 363.6 Generation and Supply 444.8 (28.2) 416.6 89.4 506.0Other businesses 106.0 - 106.0 18.6 124.6 1,021.4 (126.1) 895.3 98.9 994.2Unallocated expenses (ii) (7.9) - (7.9) - (7.9) 1,013.5 (126.1) 887.4 98.9 986.3 2005 Adjusted JCE / Before Exceptional Total Associate exceptional items and share of items and certain re- interest certain measurements and re-measurements tax (i) £m £m £m £m £m Power Systems Scotland 135.2 - 135.2 - 135.2 England 201.6 - 201.6 - 201.6 336.8 - 336.8 - 336.8 Generation and Supply 388.6 (26.5) 362.1 65.8 427.9Other businesses 93.6 0.7 94.3 - 94.3 819.0 (25.8) 793.2 65.8 859.0Unallocated expenses (ii) (8.4) - (8.4) - (8.4) 810.6 (25.8) 784.8 65.8 850.6 (i) The adjusted operating profit of the Group is reported after removal of theGroup's share of interest, movements on financing derivatives and tax fromjointly controlled entities and associates. The share of Scotia Gas Networks plcinterest includes loan stock interest payable to the consortium shareholders.The Group has accounted for its 50% share of this, £28.8m, as finance income(note 6). The gas distribution network businesses owned by Scotia Gas Networksplc were acquired on 1 June 2005 (note 10). (ii) Unallocated expenses comprise corporate office costs which are not directlyallocable to particular segments. Notes on the Financial Statementsfor the year ended 31 March 2006 5. Exceptional items and certain re-measurements i) Exceptional items During the year, net dividends of £92.1m (2005 - £159.1m) were received inrelation to the administration of TXU Europe Energy Trading Limited which hadbeen placed into administration in 2002. The net receipts of £92.1m (2005 -£111.2m, after extinguishing debtor balances) have been shown separately in theincome statement. In addition to this, the Group's share of the net dividendfrom the administration of TXU Europe Energy Trading Limited recognised asincome by an associate company, Barking Power Limited, amounting to £16.7m,(2005 - £22.3m) is shown separately within share of operating profit fromjointly controlled entities and associates. In the year, a gain on disposal of Thermal Transfer Limited, a wholly ownedsubsidiary, of £18.6m was recognised. There is no tax effect on this exceptionalitem. The financial statements to 31 March 2005 included an exceptional impairmentcharge in respect of Peterhead Power Station of £61.0m. ii) Certain re-measurements Certain re-measurements arising from the adoption of IAS 39 are disclosedseparately to aid understanding of the underlying performance of the Group. Thiscategory includes the movement on derivatives as described in note 14. These transactions can be summarised thus: 2006 2005 £m £mExceptional items Distributions from TXU administrator 108.8 133.5 Peterhead impairment - (61.0) Disposal of Thermal Transfer 18.6 - 127.4 72.5Certain re-measurements Movement on operating derivatives (note 14) (14.4) - Movement on financing derivatives (note 14) (43.5) - Share of movements on derivatives in jointly controlled entities (note (13.0) -10) (70.9) -Profit before taxation 56.5 72.5Taxation (i) (11.4) (27.2)Impact on profit for the year 45.1 45.3 (i) Taxation includes £1.1m (2005 - £6.7m) recognised within share of associatesand jointly controlled entities on the face of the Income Statement. Notes on the Financial Statementsfor the year ended 31 March 2006 6. Net finance costs 2006 2005 £m £mFinance income:Return on pension scheme assets 115.7 107.1Interest income from short term deposits 3.3 3.2Other interest receivable (i) 45.9 16.5Total finance income 164.9 126.8 Finance costs:Bank loans and overdrafts (40.1) (33.6)Other loans and charges (71.1) (60.2)Interest on pension scheme liabilities (100.0) (94.7)Accretion of convertible debt component (3.6) -Less: interest capitalised 8.3 3.4Notional interest arising on discounted provisions (4.3) (3.0)Finance costs excluding movement on financing derivatives (210.8) (188.1)Movement on financing derivatives (note 14) (43.5) -Total finance costs (254.3) (188.1) Net finance costs (89.4) (61.3) (i) Included within other interest receivable are credits from jointlycontrolled entities of £39.2m (2005 - £11.5m), including £28.8m in respect ofloan stock interest receivable from Scotia Gas Networks plc (2005 - £nil). Adjusted net finance costs are arrived at after the following adjustments: 2006 2005 £m £mNet finance costs (89.4) (61.3)(add)/less: Share of interest from jointly controlled entities and associates (97.3) (17.2) Accretion of convertible debt component 3.6 - Movement on financing derivatives (note 14) 43.5 - Return on pension scheme assets (note 13) (115.7) (107.1) Interest on pension scheme liabilities (note 13) 100.0 94.7Adjusted net finance costs (155.3) (90.9) Notes on the Financial Statementsfor the year ended 31 March 2006 7. Taxation Analysis of charge recognised in the income statement: 2006 2005 Before Before Exceptional Exceptional Exceptional Exceptional items and items and items and items and certain re- certain re- certain re- certain re- measure- measure- measure- measure- ments ments Total ments ments Total £m £m £m £m £m £mCurrent taxUK corporation tax 218.1 27.6 245.7 176.1 33.3 209.4Adjustments in respect of (0.4) - (0.4) (4.0) - (4.0)previous yearsTotal current tax 217.7 27.6 245.3 172.1 33.3 205.4 Deferred taxCurrent year 14.6 (17.3) (2.7) 30.2 (12.8) 17.4Adjustments in respect of 12.0 - 12.0 6.7 - 6.7previous yearsTotal deferred tax 26.6 (17.3) 9.3 36.9 (12.8) 24.1 Total taxation charge 244.3 10.3 254.6 209.0 20.5 229.5 The charge for the year can be reconciled to the profit per the income statementas follows: 2006 2006 2005 2005 £m % £m %Group profit before tax 896.9 789.3Less: share of results of associates and jointly (43.6) (40.6)controlled entitiesProfit before tax 853.3 748.7Tax on profit on ordinary activities at standard UK 256.0 30.0 224.6 30.0corporation tax rate of 30% (2005 - 30%)Tax effect of: Expenses not deductible for tax purposes 0.7 0.1 3.6 0.5 Non taxable income (4.8) (0.6) - - Adjustments to tax charge in respect of previous years 11.6 1.3 2.7 0.4 Consortium relief not paid for (8.6) (1.0) - - Utilisation of tax losses (0.3) - - - Advance corporation tax - - (1.4) (0.2) Group tax charge and effective rate 254.6 29.8 229.5 30.7 The adjusted current tax charge is arrived at after the following adjustments: 2006 2006 2005 2005 £m % £m % Total taxation charge 254.6 28.3 229.5 29.1Effect of adjusting items (see below) - 1.5 - 2.8Total taxation charge on adjusted basis 254.6 29.8 229.5 31.9(add)/less: Share of current tax from jointly controlled entities and 13.8 1.6 9.9 1.4associates Exceptional items (27.6) (3.2) (20.5) (2.9) Tax on movement on derivatives 17.3 2.0 - - Deferred tax (26.6) (3.2) (36.9) (5.1) Adjusted current tax charge and effective rate 231.5 27.0 182.0 25.3 The adjusted effective rate is based on adjusted profit before tax being: 2006 2005 £m £mProfit before tax 896.9 789.3(add)/less: Exceptional items and certain re-measurements (55.4) (65.8) Share of tax from jointly controlled entities and 28.8 8.6associates Accretion of convertible debt component 3.6 - Return on pension scheme assets (note 13) (115.7) (107.1) Interest on pension scheme liabilities (note 13) 100.0 94.7 Adjusted profit before tax 858.2 719.7 Notes on the Financial Statementsfor the year ended 31 March 2006 8. Dividends 2006 2005 £m £mAmounts recognised as distributions from equityFinal dividend for the previous year of 30.3p (2005 - 26.4p) per share 260.0 226.1Interim dividend for the current year of 13.8p (2005 - 12.2p) per share 118.8 104.7 378.8 330.8 Proposed final dividend for the current year of 32.7p (2005 - 30.3p) per 281.3 260.0share The proposed final dividend is subject to approval by shareholders at the AnnualGeneral Meeting and has not been included as a liability in these financialstatements. The final dividend paid, £260.0m (30.3p, 2005 - 26.4p), was declaredon 17 May 2005, approved at the Annual General Meeting on 28 July 2005 and waspaid to shareholders on 23 September 2005. An interim dividend of £118.8m(13.8p, 2005 - 12.2p) was paid on 24 March 2006. 9. Earnings per share Basic earnings per share The calculation of basic earnings per share at 31 March 2006 is based on the netprofit attributable to ordinary shareholders and a weighted average number ofordinary shares outstanding during the year ended 31 March 2006. All earningsare from continuing operations. Adjusted earnings per share Adjusted earnings per share has been calculated by excluding the charge fordeferred tax, net finance income relating to pensions, items disclosed asexceptional, and the impact of IAS 39. 2006 2006 2005 2005 Earnings Earnings Earnings per share Earnings per share £m pence £m pence Basic 642.3 74.7 559.9 65.3Exceptional items and certain re-measurements (note 5) (45.1) (5.2) (45.3) (5.3)Basic excluding exceptional items and certain 597.2 69.5 514.6 60.0re-measurementsAdjusted for:Deferred tax (note 7) 26.6 3.1 36.9 4.3Deferred tax from share of jointly controlled entities and 15.0 1.7 (1.3) (0.1)associates resultsReturn on pension scheme assets (note 13) (115.7) (13.4) (107.1) (12.4)Interest on pension scheme liabilities (note 13) 100.0 11.6 94.7 11.0Accretion of convertible debt component 3.6 0.4 - -Adjusted 626.7 72.9 537.8 62.8 Basic 642.3 74.7 559.9 65.3Convertible debt interest (net of tax) 10.5 1.2 3.3 0.4Dilutive effect of convertible debt - (3.0) - (1.2)Diluted 652.8 72.9 563.2 64.5Exceptional items and certain re-measurements (45.1) (5.0) (45.3) (5.2)Diluted excluding exceptional items and certain 607.7 67.9 517.9 59.3re-statements The weighted average number of shares used in each calculation is as follows: 2006 2005 Number of Number of shares shares (millions) (millions) For basic and adjusted earnings per share 859.5 857.2Effect of exercise of share options 1.7 1.9 861.2 859.1Effect of dilutive convertible debt 33.3 14.2For diluted earnings per share 894.5 873.3 Notes on the Financial Statementsfor the year ended 31 March 2006 10. Acquisition of Gas Distribution Networks by Scotia Gas Networks plc At 1 June 2005, Scotia Gas Networks plc, an entity of which the Group holds 50%,acquired the Scotland and the South of England gas distribution networks fromNational Grid Transco. The total value of the acquired businesses after finalisation of the completionprocess was £3,217.8m. The transaction was initially funded by non-recourseborrowings with the balance funded by the shareholders. The Group's share of theinitial transaction cost at 1 June 2005 was £483.9m which consisted of £270.0mof subordinated loans and £213.9m of equity funding. The non-recourse funding ofthis transaction was replaced by the issue of listed debt by the distributionnetwork entities of £2,219.8m on 21 October 2005. At 31 March 2006, the Group, through Scotia Gas Networks plc, had invested£521.9m in the gas distribution networks, consisting of £270.0m of subordinatedloans, £235.0m of equity funding and £16.9m of capitalised interest. The Group's investment in Scotia Gas Networks plc at 31 March 2006 is £455.0mconsisting of the £521.9m invested less the opening liability on financingderivatives (£62.6m, see below) and the loss after interest, tax and movement onderivatives (£4.3m). In the ten months from acquisition, the Group's share ofthe results of Scotia Gas Networks plc contributed £102.7m to the Group'sunderlying operating profit (note 4) and £48.6m after interest (excluding loanstock interest payable and financing derivatives). The Group's share of themark-to-market impact of the financial derivatives held by the Scotia GasNetwork companies is included in note 14. Scotia Gas Networks plc entered into a contingent interest rate swap on 30August 2004 subject to the acquisition of the gas networks in Scotland and theSouth of England being completed. From 1 April 2005, 50% of the fair value ofthe swap has been reflected in the Group's accounts including the Groups shareof the fair value loss on financing derivatives up to 1 June 2005, when thetransaction to acquire the distribution networks was concluded. Since 1 June2005, the Group's share of this loss has been reflected as part of the share oflosses on financing derivatives within the results of Scotia Gas Networks plc.On 21 October 2005, the formerly contingent swap was closed off by the issue ofa new 'mirror' swap, both of which are marked to market under IAS 39. The issueof the listed debt at 21 October 2005 was achieved at the same time as enteringa number of interest rate and currency swaps, all of which are designated asbeing effective hedges. From 1 June 2005, the Group's share of the movement onfinancing derivatives in Scotia Gas Networks plc is a charge of £13.0m (£9.1mafter tax). The investment in the jointly controlled entity is accounted for using theequity method. The acquisition of the Scotland and the South of England gas distributionnetworks by Scotia Gas Networks plc at 1 June 2005 can be represented asfollows: Carrying Fair Value Accounting Fair Value of Adjustments policy Value of acquired on alignments acquired entities acquisition entities £m £m £m £m Property, plant and equipment 3,117.8 31.9 - 3,149.7Net current liabilities (76.6) 39.6 - (37.0)Retirement benefit obligations (60.9) 5.9 - (55.0)Deferred tax (271.0) 176.6 (667.9) (762.3)Other provisions (30.3) (15.7) - (46.0)Net assets 2,679.0 238.3 (667.9) 2,249.4Goodwill (i) 401.0 (100.5) 667.9 968.4 3,080.0 137.8 - 3,217.8 Satisfied by cash:Bank facility 2,250.0Equity investment by shareholders 967.8 3,217.8 The Group's share of the equity investment 483.9(50%): Represented by:Share capital 213.9Loan Stock 270.0 483.9 The fair value adjustments reflect the assessment of fair value based on theregulatory value of the businesses and the fair value of current liabilities andprovisions including the deferred tax liability. The accounting policyadjustments reflect the adoption of Group policies on deferred taxation. Theadjustments have been made effective at the date of acquisition and thesubsequent movements in deferred taxation have been recognised in the currentyear. (i) Goodwill has been subject to impairment test review. Notes on the Financial Statementsfor the year ended 31 March 2006 11. Provisions Onerous energy contracts Decommissioning Other Total (i) (ii) (iii) £m £m £m £mAt 1 April 2005 53.4 37.1 20.8 111.3Acquired in the year - - 0.2 0.2Charged in the year 2.5 1.8 2.4 6.7Revised decommissioning value - (14.2) - (14.2)Utilised during the year (17.3) - (4.3) (21.6)Disposal in the year - - (0.6) (0.6)At 31 March 2006 38.6 24.7 18.5 81.8 At 31 March 2006Non-current 38.6 24.7 15.7 79.0Current - - 2.8 2.8 38.6 24.7 18.5 81.8At 31 March 2005Non-current 38.6 37.1 15.3 91.0Current 14.8 - 5.5 20.3 53.4 37.1 20.8 111.3 (i) The onerous energy contracts provision relates to future losses on purchasecontracts designated as own use under IAS 39. These losses will be incurred overa maximum period to 2011 when the contracts terminate. (ii) Provision has been made for the estimated net present cost ofdecommissioning certain generation and gas storage assets. The estimate is basedon a forecast of clean-up costs at the time of decommissioning discounted forthe time value of money. The timing of costs provided is dependent on the livesof the facilities. The provision held in respect of the decommissioning assetsat Fiddler's Ferry and Ferrybridge has been reassessed following the Group'sdecision to invest in flue gas desulphurisation plant at these stations, whichis expected to extend the useful lives of the stations by between 15 and 20years. Accordingly, this change in the timing of the expected decommissioningexpenditure has been reflected in the carrying value of the provision. (iii) Other provisions include balances held in relation to restructuring,insurance and warranty claims. In addition, the Group has an unapproved,unfunded retirement benefit provision for pensions for certain directors andformer directors and employees. 12. Reserves Share Capital premium redemption Equity Retained Hedge account reserve reserve earnings reserve Total £m £m £m £m £m £m At 31 March 2005 81.6 13.7 - 1,338.0 - 1,433.3Cumulative adoption of IAS 32 and - - 14.6 3.9 18.3 36.839At 1 April 2005 81.6 13.7 14.6 1,341.9 18.3 1,470.1Profit for the year - - - 642.3 - 642.3Effective portion of changes in - - - - (11.7) (11.7)fair value of cash flow hedgesPremium on issue of shares 9.1 - - - - 9.1Actuarial losses on retirement - - - (9.9) - (9.9)benefit schemes (net of tax)Dividends to shareholders - - - (378.8) - (378.8)Employee share awards - credit in respect of employee - - - 4.0 - 4.0share awards - investment in own shares - - - (9.5) - (9.5)Other movements - - - (0.4) - (0.4) At 31 March 2006 90.7 13.7 14.6 1,589.6 6.6 1,715.2 The hedge reserve comprises the effective portion of the cumulative net changein the fair value of cash flow hedge derivative instruments related to hedgedtransactions that have not yet occurred. On adoption of IAS 32, the convertible bond was analysed into an equitycomponent, which is disclosed as the equity reserve, and a debt component, whichis recorded as part of non-current loans and borrowings. Notes on the Financial Statementsfor the year ended 31 March 2006 13. Pensions Valuation of combined Pension Schemes Long- term rate Value Long- term rate Value of return at 31 of return at 31 expected at 31 March expected at 31 March March 2006 2006 March 2005 2005 % £m % £m Equities 7.7 1,258.5 8.2 1,025.7Government bonds 4.2 321.8 4.7 172.2Corporate bonds 4.9 211.4 5.4 301.2Other investments 5.0 225.6 5.3 152.2Total fair value of plan assets 2,017.3 1,651.3Present value of defined benefit obligations (2,211.1) (1,878.9)Deficit in the scheme (193.8) (227.6)Deferred tax thereon 58.1 68.3Net pension liability (135.7) (159.3) Movements in the defined benefit obligation during the year: 2006 2005 £m £m At 1 April (1,878.9) (1,691.5)Movements in the year: Service costs (22.9) (20.9) Member contributions (7.7) (6.7) Benefits paid 86.1 81.3 Interest on pension scheme liabilities (100.0) (94.7) Losses on curtailments (0.6) (1.0) Actuarial losses (287.1) (72.4) Liabilities assumed on business combinations - (73.0) At 31 March (2,211.1) (1,878.9) Movements in scheme assets during the year: 2006 2005 £m £m At 1 April 1,651.3 1,495.8Movements in the year: Expected return on pension scheme assets 115.7 107.1 Assets distributed on settlement (86.1) (81.3) Employer contributions 55.7 21.9 Member contributions 7.7 6.7 Assets acquired in business combinations - 47.0 Actuarial gains 273.0 54.1 At 31 March 2,017.3 1,651.3 Balance sheet disclosure The net pension (deficit) / surplus of the schemes have been offset in thisnote. The following is an analysis of the retirement benefit obligations andassets for financial reporting purposes. 2006 2005 £m £mRetirement benefit obligations (284.0) (326.5)Retirement benefit assets 90.2 98.9 (193.8) (227.6) Notes on the Financial Statementsfor the year ended 31 March 2006 14. Financial Assets / Liabilities The Group adopted IAS 32 and IAS 39 retrospectively as at 1 April 2005 but, aspermitted by the transition provisions of IFRS 1, the Group has not restatedcomparative information. For financial reporting purposes, the Group hasclassified derivative financial instruments into two categories, operatingderivatives and financing derivatives. Operating derivatives include allqualifying commodity contracts including those for electricity, gas, oil, coaland carbon. Financing derivatives include all fair value and cash flow interestrate hedges, non-hedge accounted (mark-to-market) interest rate derivatives,cash flow foreign exchange hedges and non-hedge accounted foreign exchangecontracts. Non-hedge accounted contracts are treated as held for trading. Thecarrying value is the same as the fair value for all instruments. All balancesare stated gross of associated deferred taxation. At Net Movement: Net Movement: At 1 April Income Hedge 31 March 2005 Statement Reserve (ii) Transfer (i) 2006 £m £m £m £m £mOperating derivatives (iii) 130.1 (14.4) (32.4) - 83.3Financing derivatives (iv) (102.2) (41.0) 15.5 89.5 (38.2) Financial assets/liabilities 27.9 (55.4) (16.9) 89.5 45.1Hedged items (v) 3.9 (2.5) - - 1.4Net balance sheet 31.8 (57.9) (16.9) 89.5 46.5 The net movement reflected in the Income Statement can be summarised thus: 2006 £mOperating derivativesTotal result on operating derivatives (vi) 176.1Less: amounts settled in the year (vii) (190.5)Movement in unrealised derivatives (14.4) Financing derivatives (and hedged items)Total result on financing derivatives (vi) (47.3)Less: amounts settled in the year (vii) 3.8Movement in unrealised derivatives (43.5)Total (57.9) (i) Represents previously contingent interest rate swap held and entered into byScotia Gas Networks plc and transferred at date of acquisition of the gasdistribution networks, at 1 June 2005, to the investment in the jointlycontrolled entity. (ii) Gains or losses transferred to the hedge reserve represent amounts inrespect of mark-to-market movements on effective cash flow hedge relationshipswhich have not matured. Where hedge accounting is discontinued, any cumulativegain or loss on the hedging instrument previously recognised in equity remainsin equity until the forecast transaction occurs. If the transaction is no longerexpected to occur, the cumulative gain or loss recognised in equity isrecognised in the income statement. (iii) These fair values represent the contracts which have not been designatedas own use purchase contracts in line with the provisions of IAS 39. The fairvalues at the balance sheet date represent the unrealised gains and losses fromholding commodity contracts for future delivery. These fair values are subjectto change in commodity market prices. (iv) The interest rate derivative instruments outstanding at the balance sheetdate had remaining lives of between 9 months and 31 years and fixed rates ofinterest payable ranging from 4.01% to 8.22%. (v) The fair value adjustments to loans and borrowings designated as the hedgeditem in effective fair value hedge relationships are analysed. This detail hasbeen included to provide a full analysis of the impact of the adoption of IAS 39in the financial year. See note 15. (vi) Total result on derivatives (operating or financial) in the incomestatement represents amounts in respect of realised gains or losses onderivatives, mark-to-market movements on effective fair value hedgerelationships which have not matured, mark-to-market movements on otherderivatives held or acquired during the year and mark-to-market movements on theineffective portion of cash flow hedge relationships which have not matured. (vii) Amounts settled in the year represent the unwind of opening unrealisedfinancial derivative assets or liabilities which have matured or been deliveredin the financial year and other derivatives transacted in the year which havematured or been delivered. Notes on the Financial Statementsfor the year ended 31 March 2006 15. Analysis of net debt Decrease At in cash (Increase)/ At 1 April and cash decrease 31 March 2005 equivalents in debt 2006 £m £m £m £m Cash and cash equivalents 232.2 (182.3) - 49.9Bank overdraft (i) (4.4) (1.7) - (6.1) 227.8 (184.0) - 43.8 Loans and borrowings (ii) (1,660.2) - (554.5) (2,214.7)Finance lease creditors (2.0) - 0.4 (1.6)Bank overdraft (i) 4.4 - 1.7 6.1 (1,657.8) - (552.4) (2,210.2) Net debt (1,430.0) (184.0) (552.4) (2,166.4) (i) Bank overdrafts are reported on the balance sheet as part of current loansand borrowings. For cash flow purposes, these have been included as cash andcash equivalents. (ii) The opening loans and borrowings are restated for £20.8m relating to theequity component of the convertible bond. The closing loans and borrowings areadjusted for £1.4m relating to fair value adjustments to borrowings per note 14. This information is provided by RNS The company news service from the London Stock Exchange

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