APPENDIX 26
Further Supplementary memorandum by Lattice
Thank you for your letter of 13 December regarding
the concerns expressed to the Trade and Industry Select Committee
that speculative international investments by the Lattice Group
might imperil its financial integrity and in turn jeopardise the
ability of the Group's principal subsidiary, Transco, to fulfil
its functions as the principal provider of Britain's gas transportation
infrastructure. You invite our observations on this matter.
I can readily confirm that in the case of the
Lattice Group and Transco there are secure regulatory safeguards
in place which will ensure Transco's continuing financial integrity
and ensure delivery of safety, reliability and customer service
standards required by law and by the regulator.
Transco's licence contains special conditions,
known as "the ring-fence conditions" which were introduced
in December 1999. Essentially, these special conditions ensure
that Transco has sufficient management and financial resources
to carry out its business, and that its parent company is unable
to take any action which would jeopardise Transco's current and
future financial integrity. Full details are provided in the attachment.
The Lattice Group is engaged in providing and
managing network infrastructure and related services, mainly in
the field of gas. There are compelling commercial reasons for
the Lattice Group to be prudent in developing its other businesses
and managing the associated risks. It is a capital-intensive asset-based
business which, in the interests of its shareholders, must achieve
a high degree of capital efficiency. This entails relatively high
gearing with debt and the prudent, rigorous management of risk
throughout the Group. The credit ratings of both the Lattice Group
and its principal subsidiary, Transco, are a prime factor in the
financial performance of the Group. It follows that the Group's
strategy is pre-disposed against speculative overseas investment.
I trust that this provides the information and
assurance which you are seeking.
4 January 2002
THE RING-FENCE
CONDITIONS IN
TRANSCO LICENCE
Transco's Licence, which allows it to operate
as a gas transporter in Great Britain is subject to a number of
ring-fence conditions, separating it from other activities of
the Lattice Group.
Without the written consent of the Gas and Electricity
Markets Authority (the Authority) neither Transco, nor its subsidiaries,
may carry on any activities other than those permitted by the
Licence. These activities are Transportation of gas and LNG Storage,
Metering and Meter Reading in Great Britain. The Licence also
permits Transco to carry on "de minimis" businesses
to encourage innovation, but in aggregate these can only amount
to 2½ per cent of Transco's turnover or capital.
Under the Licence, Transco is obliged to act
at all times in a manner best calculated to ensure that it has
sufficient management and financial resources and financial facilities
to enable it to carry on the transportation business and to comply
with its statutory and Licence obligations. Each year Transco's
Board has to certify to the Authority whether it has a reasonable
expectation that these facilities and resources will be available
to Transco to carry on its obligations for the next 12 months.
The certificate has to be accompanied with a statement of the
main factors which the Directors of Transco have taken into account
in giving the certificate. If Transco becomes aware of any circumstances
that causes it no longer to have the expectation expressed in
the most recent certificate, it has to inform the Authority immediately.
Furthermore, the directors of Transco cannot declare any dividend
(nor shall Transco make any other form of distribution to Lattice)
unless it has first issued a certificate to the Authority that
it is in compliance in all material respects with the obligations
imposed by the ring fence, and that the making of the distribution
will not cause Transco to be in material breach of these obligations
in the future.
Other aspects of the ring fence are that Transco
must use reasonable endeavours to ensure that, as an issuer of
corporate debt, it maintains an investment grade issuer credit
rating and it is not permitted to guarantee the obligations of
a third party (whether or not Lattice). Without the consent of
the Authority, Transco is only permitted to borrow for its permitted
activities and on an arms' length basis/normal commercial terms.
In addition, Transco is only able to enter into transactions with
other members of the Lattice Group in certain limited circumstances
(essentially on an arms' length basis/normal commercial terms);
there must be no cross subsidy between Transco and other members
of the Lattice Group and, in conducting the transportation business,
Transco must not confer any unfair commercial advantage on an
affiliate.
Transco is, of course, also subject to a number
of other onerous obligations under the Gas Act and the Licence,
including safety obligations and obligations to connect premises
and convey gas. Transco has a price control, which is reviewed
every five years by the Authority, which is intended to ensure
that Transco can meet all its obligations and finance its activities.
Its delivery of safety, reliability and customer service standards
is monitored by Ofgem and by the Health and Safety Executive.
Transco is also protected from actions by other
members of the Lattice Group because, under the Licence, Lattice
is obliged to give—and has given—a legally enforceable
undertaking in the form specified by the Authority that the members
of the Lattice Group will refrain from any action which would
be likely to cause Transco to breach any of its obligations under
the Gas Act or the Licence. If Lattice breach this undertaking,
Transco has to comply with any directions from the Authority to
enforce it.
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